PDD - Q2 2024

Transcript

Operator (participant)

Ladies and gentlemen, thank you for standing by, and welcome to PDD Holdings, Inc. second quarter 2024 earnings conference call. At this time, all participants are in a listen-only mode. There will be a presentation followed by a question and answer session, at which time, if you wish to ask a question, you will need to press star one on your telephone. Please be advised that today's conference is being recorded. I would now like to hand the conference over to your host today. Sir, please go ahead.

Thank you, operator. Hello, everyone, and thank you for joining us today. PDD Holdings earnings release was distributed earlier and is available on our website at investor.pddholdings.com, as well as through the GlobeNewswire services. Before we begin, I would like to refer you to our safe harbor statement in the earnings press release, which applies to this call, as we will make certain forward-looking statements. Also, this call includes discussions of certain non-GAAP financial measures. Please refer to our earnings release, which contains a reconciliation of non-GAAP measures to GAAP measures. Joining us today on the call are Mr. Chen Lei, our Chairman and Co-Chief Executive Officer, Mr. Zhao Jiazhen, our Executive Director and Co-Chief Executive Officer, as well as Ms. Liu Jun, our VP of Finance. Lei and Jiazhen will make some general remarks on our performance for the past quarter and our strategic focus.

Jun will then walk us through our financial results for the second quarter ended 06/30/2024. During the Q&A session, Lei and Jiazhen will answer questions in Chinese, and we will help translate. Please kindly note that the English translation is for reference only, and in case of any discrepancy, statements in the original language should prevail. Now, it's my pleasure to introduce our Chairman and Co-Chief Executive Officer, Mr. Chen Lei. Lei, please go ahead.

Chen Lei (Chairman and Co-CEO)

Thank you. Hello, everyone. Thank you all for joining our earnings call for the second quarter of 2024. In the first half of 2024, we have remained committed to our high-quality development strategy and consistently invested in our platform ecosystem. We received positive feedback for these efforts. Consumer experience and our services have continued to improve, and the number of new merchants and products have grown significantly.

This further meets the diverse needs of our consumers. This quarter, we benefited from the improving macro environment and achieved robust financial results. Our total revenues reached RMB 97 billion, which represents a year-on-year increase of 86%. However, we are seeing many new challenges ahead, from changing consumer demand, intensifying competition, and uncertainties in global environment.

As a result, we will enter a new phase of high-quality development that calls for increased investments, and our profitability will affect it as a result. Since the beginning of this year, we are seeing that consumer preferences have become more diverse. On one hand, consumers are increasingly choosing experience-based consumption over material purchases. On the other hand, there's a growing emphasis on rational consumption. Consumers are making more thoughtful decisions to balance quality and value. In response, we have collaborated with high-quality brands and manufacturers to create customized products that cater to these diverse demands. This approach has not only propelled many new brands to success, but also revived the popularity of many established brands, and this is just one example of how digital technology and then manufacturing can come together to create new opportunities.

At this moment, the competition among e-commerce platforms is quickly escalating, and therefore, it's even more important that we go back to the basics of supply chain improvement and invest firmly in supply chain efficiencies. This will be the key focus for our high-quality development going forward. For example, in the second quarter, our teams continued to bring our Agricultural Cloud Initiative to major production regions in helping local growers to bring seasonal foods directly to people's homes, and in this process, promoted local agriculture brands. In addition, to further improve the agriculture supply chain, nurture research talents, and promote technology inclusion, we continue to support the Smart Agriculture Competition and the Pinduoduo Academy Growing Competition.

The agriculture research fund we established in cooperation with China Agricultural University has also started to bear fruit. On the manufacturing side, we are pleased to find that many small and medium-sized businesses have been using the digital capabilities from our platform to support product iteration and innovation. Through this process, they have not only emerged stronger from the competition, but also led the local industries towards high-quality development. These results have strengthened our commitment to further investing in high-quality development. We have communicated on a number of occasions that the profit growth in the past few quarters should not be used as a long-term guidance, and it is a result of mismatch between the business investment and the financial reporting cycles.

As we enter a new investment phase, I would like to make it clear to our investors that our profits will gradually trend down starting in Q3, and there will be fluctuations or rebounds in the short term. In the long run, the decline in profitability is inevitable. Currently, our platforms have reached a considerable scale, and we will remain committed to high-quality development and a focus on creating a healthy and sustainable platform ecosystem. To this end, we adopt the necessary policies to vigorously support high-quality merchants and tackle low-quality ones. On the supply side, we will invest substantial resources to support high-quality merchants, while willing to innovate and improve qualities. We will offer significant transaction fee reduction to these merchants, with an initial target of RMB 10 billion in the first year.

By doing so, our goal is to provide clear initial incentives for the merchants to join high-quality development. On the other hand, we will further deepen our trust and safety capabilities to improve our merchant ecosystem and strengthen our supply chain. We are actively identifying and removing unlawful bad actors from our platforms, and we will continue to strengthen these efforts. At the moment, we have already started a new round of investments in operations and R&D to streamline the merchant onboarding and product listing process. And leveraging technology, we will gradually improve the quality of the products sold on our platforms and create a fair and transparent business environment for our merchants. In this process, we believe that sacrificing short-term profits is necessary. A clear downward trend in profits is expected, but we are prepared to invest firmly and patiently in the platform's long-term health.

This is a decision that has received unanimous support from all our management team, and now moving on to the global business. In the past few quarters, we have noticed the rapid shifts in external environment, which brought significantly greater uncertainty. Our operations have also become increasingly affected by non-business factors, and meanwhile the competition we face is growing stronger. Competition is here to stay and is expected to intensify in our industry.

Our global business is facing significant uncertainties from intense competition and evolving external environment. These factors combined will inevitably cause fluctuations to our business, as shown in this quarter's results. High revenue growth is not sustainable, and a downward trend in profitability is inevitable. Finally, as the environment evolves and our company continues to grow, the other management team and I often discuss how we can better fulfill our corporate social responsibilities.

We believe there is still many things that can be done. For example, through enhancing our governance structure and adjusting resources, we can better adapt to the changing times. We can also do more to give back to the society, to support agriculture and other industry sectors, and offer greater support to the people who need it most. We fully recognize that simply measuring our company's performance by short-term capital returns no longer aligns with where we are today. As a global company in this era, we are committed to driving innovation, adapting to change, and taking on greater social responsibilities in the regions across the globe. Now, I will hand it over to our co-CEO, Zhao Jiazhen, to talk more about our operations in the second quarter.

Jiazhen Zhao (Executive Director and Co-CEO)

[Foreign language]

Thank you, Lei. Hello, everyone. This is Zhao Jiazhen. Thank you all for joining our earnings call for the second quarter of 2024.

[Foreign language]

In the first half of this year, online retail in China continues to perform well, bringing fresh energy to the overall consumption market. Over the past quarter, we continue to advance our high quality development strategy, making steady long-term investments to support both supply and demand sides of our platforms. Looking ahead to the second quarter of this year and beyond, we're very confident in the future of China's consumer market.

[Foreign language]

This quarter, we continue to focus on consumer demand, further enhanced our more savings and better services capabilities, and upgraded our after-sales services to provide consumers with more value and more enjoyable shopping experiences. During the June 18th promotion, we continued to provide consumers with straightforward savings and introduced new promotions to meet the increasingly diverse consumer preferences. We also brought product categories like fresh produce, daily necessities, and high-end appliances into third and fourth tier cities, and made our contribution to consumption upgrades across the regions.

[Foreign language]

On the supply side, we step up our support for quality merchants and brands, directing more traffic to high quality products through the Ten Billion Program and fresh sales. We have also focused on enhancing the quality and efficiency of the supply chain, bringing more value to the agricultural areas and industry regions, and benefiting more producers of quality agricultural and domestic growth.

[Foreign language]

To support the Countryside Home Appliance Program and the consumer goods trade-in, we invested RMB 1 billion during the first week of the June 18th. This boost led to remarkable growth for many local brands in categories such as electronics, home appliances, kitchenware, and household products. For example, utilizing our digital technology, we helped a local brand with 36 years of history to understand the latest market demands and return to growth with a blockbuster product. It achieved RMB 100 million in sales after joining the platform for just two months.

[Foreign language]

In addition, the number of new merchants and new product supplies on our platforms saw meaningful growth. In the first week of June 18th, the number of merchants participating in the Ten Billion Program grew by over 90% year-on-year, and the number of agricultural merchants increased by 83% year-on-year. Our platform also attracted a great number of new merchants in categories such as electronics, home appliances, and cosmetics.

[Foreign language]

To create a better business environment for high quality merchants, we have started a new round of investments in operations and R&D. Our goal is to build industry leading compliance capabilities and foster a healthy platform ecosystem. For example, we continue to streamline our merchant onboarding and product listing processes to better control product quality and offer consumers a safe and reliable shopping experience.

[Foreign language]

We integrate automatic technology for product screening with thorough manual reviews by our trust and safety team. This approach ensures rigorous oversight on product compliance, while avoiding unintended penalties for quality products and merchants.

[Foreign language]

At the same time, we have invested heavily in developing comprehensive, user-friendly training materials for merchants to boost their compliance capabilities. This effort aims to enhance our supply chain quality, while helping merchants lower compliance costs and expand their market reach.

[Foreign language]

We also deeply recognize that building a healthy platform ecosystem and achieving high quality development is a gradual process, especially given the continual scale of our platforms. So we are committed to a dual approach. One side, providing strong support to high quality merchants, while addressing issues with low quality ones. This way, we aim to create healthy and sustainable ecosystem.

[Foreign language]

In this process, we will inevitably face short-term costs. As Lei has mentioned, our management team is fully committed to investing heavily for the long-term health of our platforms. While profits might vary or even rebound in the next few quarters, it's unavoidable that profitability will trend lower over the long term.

[Foreign language]

As the largest platform for agricultural products in China, this quarter, we further advanced our agricultural strategy. We launched the Science and Technology Courtyard project in Yunnan, Dali, and Shaanxi, Foping, and also kicked off the fourth Smart Agriculture Competition in collaboration with top research teams from around the world. We will continue to increase investment in agricultural research to promote the commercial application of research findings and accelerate the market adoption of high quality agricultural products.

[Foreign language]

Meanwhile, we also leverage our strength as a platform, working with ecosystem partners to proactively take on more social responsibilities. We invested tens of millions in reading funds and subsidies to launch the seventh Duo Duo Reading Month. This initiative provides direct discounts on thousands of book products, making knowledge more accessible to more people.

[Foreign language]

2024 is a critical year on our path towards high quality development. We will focus on creating healthy and sustainable platform ecosystem and empowering our ecosystem partners with more platform resources and technical support. Together, we will lay a solid foundation towards the high quality development of our platforms.

[Foreign language]

Next, I will hand over to Jun. She will provide an update on our financial performance for the second quarter.

Jun Liu (VP of Finance)

Thank you, Jiazhen. Hello, everyone. Let me walk you through our financial performance for the second quarter ended June 30, 2024. In terms of income statements, in the second quarter, our total revenues increased 86% year-over-year to RMB 97.1 billion. This was mainly driven by an increase in revenues from online marketing services and transaction services. Revenues from online marketing services and others were RMB 49.1 billion this quarter up 29% from the same quarter of 2023. Revenues from transaction services were RMB 47.9 billion, up 234% from the same quarter last year. In Q2, our top line growth slowed down significantly versus the last few quarters. Further slowdown is inevitable as a result of competition and global uncertainties. Move on to cost and expenses.

Total cost of revenues increased 80% from RMB 18.7 billion in Q2 2023 to RMB 33.7 billion this quarter, mainly due to increase in fulfillment fees and payment processing fees. On a GAAP basis, total operating expenses this quarter increased 48% to RMB 30.8 billion, from RMB 20.9 billion in the same quarter of 2023. On a non-GAAP basis, total operating expenses increased to RMB 28.4 billion this quarter, from RMB 19 billion in Q2 2023. In Q2, we continued to invest externally to support the high-quality development of our platforms. Our total non-GAAP operating expenses as a percentage of total revenues this quarter was 29%, compared to 36% in the same quarter last year.

Looking to specific expense items, our non-GAAP sales and marketing expenses this quarter were RMB 25.4 billion, up 54% versus the same quarter last year. Throughout Q2, we step up our promotion efforts to give back to consumers and invest in marketing to promote our platforms. On a non-GAAP basis, our sales and marketing expenses as a percentage of our revenues this quarter was 26%, versus 32% for the same quarter last year. Our non-GAAP general and administrative expenses were RMB 594 million, versus RMB 370 million in the same quarter of 2023. Our research and development expenses were RMB 2.4 billion this quarter on a non-GAAP basis, up 15% year-over-year, and RMB 2.9 billion on a GAAP basis.

It's critical that we maintain our long-term focus and continue to invest in R&D to drive supply chain efficiency and customer experience. On a GAAP basis, operating profit for the quarter was RMB 32.6 billion versus RMB 12.7 billion in the same quarter last year. Non-GAAP operating profit was RMB 35 billion versus RMB 14.6 billion in the same quarter last year. Non-GAAP operating profit margin was 36% this quarter, compared with 28% for the same quarter last year. Net income attributable to ordinary shareholders was RMB 32 billion for the quarter, compared to RMB 13.1 billion in the same quarter last year.

Basic earnings per ADS was RMB 23.14, and diluted earnings per ADS was RMB 21.61, versus basic earnings per ADS of RMB 9.64 and diluted earnings per ADS of RMB 9 in the same quarter of 2023. Non-GAAP net income attributable to ordinary shareholders was RMB 34.4 billion, versus RMB 15.3 billion in the same quarter last year. Non-GAAP diluted earnings per ADS was RMB 23.24, versus RMB 10.47 in the same quarter of 2023. As noted last quarter, our business does not follow a linear path, and profitability in the last few quarters does not represent future. Looking ahead, we will invest firmly to support a healthy ecosystem that encourages high-quality merchants. Our profitability may fluctuate in the short term, but we are gradually tracking lower in the long run.

This is inevitable as we focus on the long-term, high-quality development of our platforms. That concludes the income statement. Now let me move on to cash flow. Our net cash generated from operating activities was RMB 43.8 billion, compared with RMB 23.4 billion in the same quarter last year. As of June 30th, 2024, we have RMB 284.9 billion in cash, cash equivalents, and short-term investments. Thank you. This concludes my prepared remarks.

Thank you, Jun. Next, we'll move on to the Q&A session. In today's Q&A session, Lei, Jiazhen, and Jun will take questions from analysts on the line. We will take a maximum of two questions from each analyst. Lei and Jiazhen will answer questions in Chinese, and we will help translate for convenience purpose. Operator, we are open for questions.

Operator (participant)

Thank you, ladies and gentlemen. We will now begin the question and- answer session. If you wish to ask a question, please press star one on your telephone and wait for your name to be announced. If you wish to cancel your request, please press star then two. Participants are requested to restrict the number of questions to two at each time. Your first question comes from Joyce Ju from Bank of America. Please go ahead.

Joyce Ju (VP)

[Foreign language] I will translate for myself. I have two questions. My first question is, we have seen Duoduo's profit growth remain robust this quarter. But in the prepared remark, management mentioned there will be increased investment and profitability fluctuations caused by the competition. Could management share how you assess the profit plan in the future?

In addition, in terms of shareholder returns, does management have any plans for share buyback or dividend payout? My second question is, in the prepared remark, we noted that management emphasized a lot on the merchant ecosystem and the merchant supporting policies. Could you please elaborate a bit on your understanding on the healthy merchant ecosystem? How to review it, how to understand it, and why this will become the focus of the platform in the next stage? Thanks a lot.

Chen Lei (Chairman and Co-CEO)

[Foreign language]

Hi, this is Chen Lei. Let me take your first question.

[Foreign language]

We have communicated on a number of occasions that the profit growth in the past few quarters should not be used as a long-term guidance, and it was a result of the mismatch between the business investment and financial reporting cycles.

[Foreign language]

In addition, our business is currently facing intense competition and shifting external factors, which will inevitably bring fluctuations to our business and also slow down our top line growth.

[Foreign language]

We are now entering a new phase of steady transformation towards high quality development, and we need to invest patiently in the platform's long-term health. And to support a sustainable development of our platform ecosystem, we will invest substantial resources over the next 12 months to support high quality merchants. And looking ahead, our profitability may fluctuate in the short run, but directionally, it will gradually enter a downward trend.

[Foreign language]

And empowering and supporting merchants is crucial to building our high quality supply chain and also creating a robust platform ecosystem. Over the long run, this will start up a virtuous cycle for the platform, and therefore we will remain committed to patient investments even though short-term profits will be affected.

[Foreign language]

In terms of shareholder returns, the company is still in the investment phase, and we are facing intense competition on different fronts and also uncertainties from external factors, and therefore our management team and I unanimously believe that it is not an appropriate time for share repurchases or dividends. In the foreseeable years ahead, we also do not see such a need. Thank you.

Jiazhen Zhao (Executive Director and Co-CEO)

[Foreign language]

Hi, this is Zhao Jiazhen. Let me take your question on merchant ecosystem.

[Foreign language]

Our platform is a mutually dependent community of merchants, consumers, and our operation teams. Merchants are our key partners in our joint effort to serve consumers.

[Foreign language]

The increased competition in our industry brings new demands on our community. In this process, we feel a strong sense of responsibility as a platform. On one side, we must ensure strict oversight of product quality to prevent substandard goods and protect consumer rights. On the other side, we must ensure fairness so that dedicated, high quality merchants can earn meaningful rewards, which is essential for the healthy development of platform ecosystem.

[Foreign language]

To achieve balance in the ecosystem, we have no choice but to firmly transition towards high quality development. Therefore, we will adopt the necessary policies to provide strong support to high quality merchants while tempering low quality ones. On the supply side, we will strongly support merchants with product and technology innovation capabilities. We will significantly reduce transaction fees for these high quality merchants, with an expected amount of RMB 10 billion in the following year. We will continue to enhance incentives for the merchants to drive our high quality development of ecosystem.

[Foreign language]

On the other side, we will further enforce strong governance of our platform and merchants. This includes identifying and removing unlawful merchants from our platform to strengthen our supply chain. As of now, we have already started a new round of investment in operations and technology to optimize the merchant onboarding and product listing processes, use advanced technology to ensure strict product quality control and create a better environment for our high quality merchants.

[Foreign language]

We grow together with our high quality merchant partners, working together to offer consumers high quality products and services. The consumers can in turn bring new growth opportunities to the ecosystem, creating a virtual cycle, which is the key to the long-term healthy development of our community.

[Foreign language]

To achieve the goal of high quality development of the merchant ecosystem, our management has reached a consensus to firmly commit to long-term investments and create a healthy, sustainable platform ecosystem. Thank you all.

Operator, let's move on to the next analyst on the line.

Operator (participant)

Thank you. The next question is from Yang Bai from CICC. Please go ahead.

Yang Bai (Asset Management Intern)

[Foreign language]

Thank you, management. I have two questions. The first one is, we have observed that the growth of your global business remains strong, but some external data suggests that the growth rate and the investment in certain markets are slowing down. In your prepared remark, we also noticed that the company take a relatively cautious approach towards the future development of your global business. Is the company trying to manage some risks proactively? Could your management please elaborate on your thinking in this regard? The second one is, we saw that the overall competitive environment is quite intense. Has this caused any impact on the company's growth? In such a competitive environment, how will the company adjust your investment priorities, and how does the management think about your positioning? Thank you.

Chen Lei (Chairman and Co-CEO)

[Foreign language]

Hi, this is Lei. Let me take your question on the global business.

[Foreign language]

Our global business is still evolving, and we are actively exploring new opportunities. Currently, our global business has entered over 70 markets, and during this growth, we have always prioritized compliance and see it as the foundation for our development. Over the past few quarters, we have invested significant resources in building a safe shopping environment.

[Foreign language]

As our business develops, we have noticed that the changes in the external environment are accelerating, and our operations are increasingly affected by some non-business factors. And we are seeing a significant increase in uncertainty. And meanwhile, competition is a constant theme in the e-commerce industry and is expected to intensify.

[Foreign language]

And at this moment, such intense competition, combined with the impact of external factors, will inevitably lead to disruptions on our global business. But nevertheless, we remain committed to our vision of allowing more consumers worldwide, to enjoy the benefits of the digital economy, and this has not changed.

[Foreign language]

In response to the complex environment, we will focus on our core strength and continuously improve our capabilities in supply chain, customer services, and compliance. To better meet the expectations of consumers around the world, and also achieve high quality development in our global business. Thank you.

Jiazhen Zhao (Executive Director and Co-CEO)

[Foreign language]

Hi, this is Zhao Jiazhen. Let me take your question on competition.

[Foreign language]

Over the past few quarters, the competition has been intensifying, which is natural to the e-commerce sector. In such a competitive environment, our revenue growth may slow down. For instance, in the second quarter, our revenue growth has declined, indicating that high revenue growth is not sustainable.

[Foreign language]

Currently, consumer demand is becoming more diversified, and e-commerce platforms are actively adjusting their strategies to meet these evolving needs. Each platform has its own strength and competitive edge, and commits substantial resources to cater to consumer demands. At this moment, we need to focus on our core strength and continue on our path to high quality development.

[Foreign language]

For e-commerce platforms, a robust supply chain is essential to providing good services to consumers. To meet the diversified needs of consumers, we remain focused on the fundamentals and strive for innovation in the supply chain. In the second quarter, our teams continued to bring agricultural core initiatives to major production regions, helping local agricultural products build their brands and empowering small and medium-sized agricultural merchants through collective marketing efforts.

[Foreign language]

Apart from agricultural products, we have expanded our support to the manufacturers through digitalization. By collaborating with high-quality national brands and manufacturers, we have successfully launched tailored products for niche categories. These brands and merchants have achieved higher quality development through continuous technological updates and product innovation.

[Foreign language]

We will strongly encourage and support high quality merchants who are dedicated to their business and innovation. In addition to the significant reduction in transaction fees that we plan to offer, we will continue to leverage our platform's supply chain capabilities to help merchants improve quality and efficiency, and guide manufacturers towards innovative and high quality development.

[Foreign language]

We fully understand that only by optimizing and upgrading the supply chain is essential to meeting deeper consumer needs and ensuring the long-term healthy growth of our platform ecosystem. We are committed to making long-term and patient investments. Thank you all.

Chen Lei (Chairman and Co-CEO)

Thank you, Jiazhen, and thank you all for joining us today. We look forward to speaking with you again next quarter. Thank you. Have a nice day.

Operator (participant)

Thank you, ladies and gentlemen. That does conclude our conference for today. Thank you for participating. You may all now disconnect.