Q1 2023 Gaotu Techedu Inc Earnings Call

Participants

Nan Shen; CFO; Gaotu Techedu Inc.

Sherry Liu; IR Manager; Gaotu Techedu Inc.

Xiangdong Chen; Founder, Chairman & CEO; Gaotu Techedu Inc.

Unidentified Analyst

Presentation

Operator

Ladies and gentlemen, thank you for standing by, and welcome to the Gaotu Techedu First Quarter 2023 Earnings Conference Call. After today's presentation, there will be an opportunity to ask questions. Please note, today's event is being recorded.
I would now like to turn the conference over to your first speaker today, Ms. Sherry Liu, IR Manager of Gaotu. Please go ahead, Sherry.

Sherry Liu

Thank you, operator. Good evening, everyone. Thank you for joining Gaotu's First Quarter 2023 Earnings Conference Call. Gaotu's earnings release for the quarter was published earlier today and is available on the company's IR website at ir.gaotu.cn.
Joining the call with me tonight from Gaotu senior management is Mr. Larry Chen, Gaotu's Founder, Chairman and Chief Executive Officer; and Ms. Shannon Shen, Gaotu's Chief Financial Officer. Larry will first provide business highlights for the quarter, and then afterwards, Shannon will discuss our financial performance in more detail. Following their prepared remarks, Larry and Shannon will be available for the Q&A session.
Before we begin, I would like to remind you that this conference call will contain forward-looking statements as defined in the U.S. Private Securities Litigation Reform Act of 1995. These forward-looking statements are based upon management's current beliefs and expectations as well as the current market and operating conditions and they involve known or unknown risks, uncertainties and other factors, all of which are difficult to predict and many of which are beyond the company's control and may cause the company's actual results, performance or achievements to differ materially from those contained in any forward-looking statements. Further information regarding these and others is included in the company's public filings with the U.S. SEC.
The company does not undertake any obligation to update any forward-looking statements, except as required under applicable law. During today's call, management will also discuss certain non-GAAP measures for comparative purposes only. For definition of non-GAAP financial measures and reconciliation of GAAP to non-GAAP financial results, please refer to our first quarter earnings release published earlier today.
As a reminder, this conference is being recorded. In addition, a live and archived webcast of this conference call will be available on Gaotu's IR website.
It is now my pleasure to introduce Larry. Larry, please?

Xiangdong Chen

Thank you, Sherry. Good evening, and good morning, everyone. Thank you for joining us on Gaotu's first quarter 2023 earnings conference call. Before I start, I would like to remind everyone that all financial figures discussed tonight are quoted in RMB and as stated otherwise.
During the first quarter of 2023, we maintained the healthy and stable sequential growth in net revenues and drove a significant year-over-year increase in gross billings with lower selling expenses. Our net revenues increased 12.3% quarter-over-quarter to RMB 707.3 million, and our gross billings were up 69.4% year-over-year to RMB 539 million. Moreover, the improvement in operational efficiency strengthened our profitability, which was demonstrated by the triple-digit year-over-year increase in both income from operations and net income.
Our non-GAAP net income margin for the quarter reached 18.9%, while favorable seasonality partially contributed to the strong start to the year, it was primarily driven by our exceptional organizational capabilities and our unwavering commitment to our stress to have long-term sustainable and profitable growth, and it further reinforced our confidence in achieving any effective growth and generating a sizable positive net operating cash flow for the full year 2023.
Our folks continue to remain on to major business lines, learning services and educational content and digitalized learning products. Learning services continue to serve as the core pillar of our business and the predominant revenue contributor. It mainly includes educational services for college students and adult overseas study related services, nonacademic tutoring services and other traditional learning services.
I will now discuss the business highlights of the quarter through 3 aspects. First, all of our core business segments continue to remain on steady development trajectory. To start, our educational services for college students and adults generated positive net operating cash flow during the quarter, which not only reflected the seasonal uptick in gross billings, but more meaningfully with a confirmation of robust operational efficiency enhancement.
For instance, our post graduate entrance exam prep business saw probably 36% sequential increase in gross billings as well as a triple-digit year-over-year growth in marketing expense ROI well positioning as to obtain further revenue growth. Moreover, some of our overseas study related services such as the IELTS business delivered triple-digit year-over-year growth in both gross billings and revenues. Additionally, our nonacademic tutoring services out booked the triple digit year-over-year increase in gross billings. Looking forward, we expect all of our core business lines to sustain the positive momentum.
Second, we continue to innovate to achieve business breakthroughs. We have been ramping up and developed a diverse range of regional and self-operated customer acquisition channels with higher conversion rates with a particular focus on private traffic such as strong video live streaming operations. During the quarter, I created my own account ongoing to lead and encourage our team to explore the opportunity in the short video ecosystem. Live streaming ongoing has already become 1 of the major customer acquisition channel for some of our new businesses and live streaming sessions posted by a number of our instructors have repeatedly ranked among the top platformers in their respective verticals in terms of gross merchandise value or GMV.
Attesting to the value of their premium content, reaching presentations and their seamless collaboration with our dedicated professional and efficient back-end team. Through setting up our own matrix accounts on the Douyin platform, we have dramatically improved customer acquisition efficiency and strengthened the recognition of the Gaotu brand, which will facilitate word of mouth referrals going forward, forming a positive feedback loop.
Finally, we are convinced that artificial intelligence will have a tremendously transformative effect on broad range of industries, especially in the educational sector. As an online education company, we will leverage our advantages in student learning statistics and the technology expertise that we have accumulated over the years to see the emerging opportunities, accelerating the realization of AI technologies in educational setting and develop innovative and highly personalized intelligence products that exceed expectations to reinforce user engagement.
Third, we continue to enhance our operational efficiency. On one hand, the integration of generative AI with education has already and will further expedite internal efficiency improvements, allowing our instructors and tutors to dedicate more time to assist students with tailored services and deliver more compelling results. On the other hand, we have also improved cross delivery efficiency through continuous training of instructors and tutors as well as the optimization of operational systems. As a result, we achieved the third consecutive sequential improvement in gross profit margin.
Further, thanks to our improved customer acquisition efficiency and Douyin brand popularity, setting expenses ROI was up by approximately 74% year-over-year, prompting the notable year-over-year growth in gross billings. Move forward, we will continue to boost efficiency and profitability while ensuring high standards for teaching quality and customer satisfaction. We are convinced that the rapid development of AI technology will bring about a paradigm shift in transformation across the education industry.
We are actively embracing all the emerging changes as we push the boundaries with and are making efforts to develop and innovate across this dynamic market landscape to create more efficient educational products with learning services and more convincing results and to better fulfill the educational needs of the next generation. Nevertheless, regardless of how the industry will be received, we will stay true to our cherished original aspiration to educate. Our pursuit of excellence in educational products, teaching quality and learning services is unprecedented. As we look ahead, committed to our mission of making learning better, we will continue to deepen our presence in the education sector by leveraging our outstanding cohesive team to create sustainable value for all of our stakeholders.
Thank you very much. This is the end of my prepared remarks. Now I will pass the call over to our CFO, Shannon, to walk you through our financial and operational details of this quarter. Shannon, please?

Nan Shen

Thank you, Larry, and thank you, everyone, for joining our call today. I will now walk you through our operating and financial performance for the first quarter of 2023. Please note that all financial figures discussed today are quoted in RMB unless otherwise noted.
We reported another quarter of solid financial performance. It is encouraging to see that our net revenues recorded the third quarter of consecutive sequential growth, increasing by 12.3% quarter-over-quarter to RMB 707.3 million. Additionally, gross billings increased by a considerable 69.4% year-over-year to RMB 539 million. Even more noteworthy is that during the quarter we considerably enhanced our key profit metrics on both an annual and quarterly basis.
Specifically, net income grew sharply by 112.1% year-over-year to RMB 113.9 million, which led to an 8.7 percentage points year-over-year increase in net income margin to 16.1%. Non-GAAP net income rose to RMB 133.6 million, accompanying a non-GAAP net income margin of 18.9%, representing the highest quarterly net income margin since our business restructuring in 2022. The substantial improvement in profitability is a testament to our sound business model, sustainable growth strategy and outstandingly cohesive organization and also underlines the effectiveness of our continuous endeavor to refine operations, optimize costs and enhance customer acquisitions and operational efficiency.
Breaking it down, more than 75% of total revenues came from nonacademic tutoring services and other traditional learning services, which remain a key priority for our business. For the education industry, non-academic tutoring services represent an emerging vertical with booming market demand and high growth potential. Our nonacademic tutoring services focused on offering holistic and systematic education for school age kids by sharpening their overall learning, logical reasoning and critical thinking abilities.
During the quarter, in addition to being profitable, this segment achieved a triple-digit year-over-year growth in gross billings. At present, our top priority for this business line is to develop products that exceed customer expectations by leveraging our extensive resources, conducting in-depth market analysis and driving product and technology innovation. Leaning on our competitive strength in traditional learning services, we will further refine our products and services and diversify our delivery formats to cater to customer needs, through which we aim to improve enrollments and retention to promote the substantial growth of our nonacademic tutoring business.
The other crucial component of our learning services is education services for college students and adults, which accounted for nearly 20% of the quarter's total revenue. This segment generated positive net operating cash flow during the first quarter through building up a more comprehensive spectrum of educational products and a more systematic process of student retention, cost registration and referral. Efficiency in customer acquisition has also been notably improved through higher reliance on content-driven proprietary channels.
Our business demonstrates salient seasonality, chiefly through the following 3 measures: first, in terms of gross billings, which is a leading indicator of revenues in the education industry, we attained a 69.4% year-over-year increase in this measure. Gross billings for our learning services are normally recognized as revenue within 6 to 12 months. To align with school schedule, we designated the second and the fourth quarter as our main customer retention seasons, due to which gross billings are notably higher compared to the first and the third quarter. This is particularly true for the fourth quarter when our total concurrent student enrollments typically climb to the peak of the year, following customer acquisition efforts during the summer holiday period, leading to the highest quarterly level in gross billings.
Consecutively, gross billings in the first quarter are generally lower than in the preceding fourth quarter as it is a nonpeak season for student retention. Additionally, you may notice that our net revenues slightly declined in the quarter compared to the same period of last year. This was mainly due to the higher base in revenues of our existing traditional services as a result of regulatory adjustments in the first quarter of last year.
Along with the ongoing steady recovery of our traditional business, we expect to see a year-over-year growth in net revenues and in gross billings next quarter as well as a meaningful profitability. According to management's current expectations, we foresee an up to 24.2% year-over-year growth in revenues and a much higher year-over-year growth rate in gross billings next quarter.
Turning to our bottom line. We meaningfully improved our profit margins on both year-over-year and quarter-over-quarter basis during the quarter. Our margins during the first and fourth quarter are usually higher relative to the rest of the year due to reduced marketing expenses during the summer holiday period. For example, our selling expenses are normally lower in the first quarter, given the fact that it is a low season for customer acquisition, and that demand is weak during the Chinese New Year holiday, giving rise to improved profitability.
Moreover, due to a higher student-tutor ratio and tight course scheduling we will also usually witness an increase in gross margins during the first quarter. However, in the second and the third quarter, which are the most effective seasons for customer acquisition, we often allocate a higher amount of sales and marketing expense proportionate to market demand as we strive to attract and engage with potential students to expand our customer base, at the same time, enhancing efficiency. This implies relatively lower expected margins in the second and third quarter relative to the first quarter. We believe these marketing investments are essential to strengthening our competitive position, and we are firmly confident that we will maintain a meaningful profitability as we improve our market penetration rate like the quarter.
With regard to the full year 2023, our prior projections of generating sizable positive net operating cash flow as well as achieving effective growth remain unchanged. Lastly, regarding customer acquisition efficiency, our selling expenses in the quarter decreased 2.5% year-over-year but brought about a nearly 70% year-over-year increase in gross billings, which implies that our sales and marketing expenses ROI has registered a 73.8% increase. This was mainly attained through our continued efforts to explore more innovative channels to target and acquire high-quality and motivated students at lower costs with higher returns.
First, we enhanced our autonomy over customer acquisition by expanding proprietary self-operated channels and through which we effectively lowered our customer acquisition costs and boosted user engagement across our platform through creating premium content. After months of continuous hard work, we have made promising progress with some of our key business lines, our short video platforms and will reapply the insights and know-how to other businesses.
Secondly, we also have expanded into off-line channels such as hosting on-campus seminars. Third, we are also conducting personalized and localized operations to acquire and serve students more effectively. Going forward, we will continue to improve our customer acquisition efficiency to drive sustainable growth and to create long-term value for all of our stakeholders.
Now I will present our financials in detailed numbers. Our cost of revenues this quarter was RMB 160 million. Gross profit increased 7% year-over-year and 16.4% quarter-over-quarter to RMB 547.3 million. Gross profit margin was 77.4%, representing a 677 basis points increase year-over-year and a 268 basis point increase quarter-over-quarter. Non-GAAP gross profit was RMB 571.3 million and non-GAAP gross profit margin was 77.9%. The increase in gross profit margin was largely due to higher efficiency in course delivery as our inspectors and tutors became more experienced and our new initiatives continued to develop.
Total operating expenses during the quarter decreased 7% year-over-year and 6.5% quarter-over-quarter to RMB 442.2 million ignoring operating leverage that resulted in an increase in operating profit margins. Breaking down, selling expenses decreased 2.5% year-over-year and 4.4% quarter-over-quarter to RMB 277 million. Selling expenses margin was 39.2%, which was almost 7 percentage points lower than in the prior quarter.
Moving on, research and development expenses decreased 21.3% year-over-year, and 12.9% quarter-over-quarter to RMB 97 million, accounting for 13.7 percentage of net revenues. General and administrative expenses decreased 0.9% year-over-year and 5.1% quarter-over-quarter to RMB 78.2 million, accounting for 11.1% of net revenues. Accordingly, income from operations for the quarter sharply rose to 275.9% year-over-year to RMB 95.1 million. Non-GAAP income from operations was RMB 114.9 million. Operating margin increased 10 percentage points year-over-year to 13.5% and non-GAAP operating margin increased 7.4 percentage points year-over-year to 16.2%.
Net income significantly increased 112.1% year-over-year to RMB 113.9 million. Non-GAAP net income was RMB 133.6 million. Net income margin increased 8.7 percentage points year-over-year to 15.1%, and non-GAAP net income margin was 18.9%. Our net operating cash outflow this quarter was RMB 216.4 million, mainly due to annual bonus payouts and the fact that gross billing student retention seasons are generally lower than those during peak season. Seasonality wise, cash flows from operations in the second and fourth quarter are generally positive compared with those in the first and the third quarters. We expect net operating cash flow to turn positive at a meaningful scale next quarter.
Turning to our balance sheet. As of March 31, 2023, we had RMB 1.2 billion of cash, cash equivalents and restricted cash and RMB 2.2 billion of short-term investments, which totaled approximately RMB 3.4 billion, providing ample resources for continued business development. Additionally, as of March 31, 2023, we had receivables from third-party payment platforms such as WeChat Pay and Alipay of RMB 86.6 million, which consists of cash payments received from our students, but held at the payment platforms. As of the date of this earnings release, we have collected almost all of the above-mentioned balance from the third-party payment platforms and converted into cash and cash equivalents.
If we count it for as balance, our cash position raised around RMB 3.5 billion nearly RMB 303 million higher than at the end of the same period of last year. As of March 31, 2023, average deferred revenue balance was RMB 770.6 million, which primarily consists of tuition received all along.
Before I provide our business outlook for the next quarter, please allow me to remind everyone that this contains forward-looking statements, which involve risks and uncertainties that are beyond our control and could cause the actual results to differ materially from our predictions. Based on management's current estimates, total net revenue for the second quarter of 2023 are expected to be between RMB 648 million and RMB 668 million, representing a year-over-year increase of 20.5% to 24.2%.
This concludes my prepared remarks. Operator, we are now ready for the Q&A session. Thank you, everyone, for listening.

Question and Answer Session

Operator

(Operator Instructions) The first question comes from Crystal Lee from CMS.

Unidentified Analyst

I have 1 question regarding your margin. I noticed that your first quarter net margin improved a lot. Could you provide some impact into the margin outlook for the next few quarters? And how should we think about any potential seasonality factors impacting margins?

Nan Shen

Thanks, Crystal, for your questions. So let me recap our guidance first. Per our guidance for the next quarter, we are foreseeing an up to 24.2% revenue increase on a year-over-year basis. On top of the revenue guidance, we still anticipate gross billings to grow far more quickly than revenue in the second quarter year-over-year. Considering the nearly 70% year-on-year increase in gross billings in the first quarter and a mid-double-digit growth rate in the second quarter, we have a full and firm confidence in the scale of annual revenue growth in 2023.
And in terms of margins, our profitability primarily depends on our operational efficiency and I will elaborate it from a few aspects. Firstly, over the past year, we've been focused on building up organizational capabilities and optimizing our cost structure. The work itself has yielded significant results leading to continuous improvements in our key profit margins.
And secondly, we have benefited from operating leverage as our total R&D and G&A expenses have remained relatively stable. With the increase in scale in revenues, operating leverage will have a more pronounced impact on profitability enhancement.
And last, customer acquisition efficiency is another critical factor influencing our margin. We've been dedicated to exploring customer acquisition channels with high entry barriers, and we have gradually shifted our customer acquisition strategy from purchasing traffic from those social platforms to more like a content-driven platform such as to video live streaming platforms and off-line channels. This has resulted in a significant improvement in ROI levels. As you can see, like our first quarter results, our ROI actually increased over like 73% on a year-over-year basis.
Overall, as Larry mentioned earlier, our goal remains to achieve profitable growth, and we believe that we'll witness a meaningful level of profitability for the full year of 2023. And actually, our business shows a filling seasonality. We would stress you and other investors to put more weight on the year-over-year comparisons from now on. Taking the second quarter, as an example, we usually generate a large scale of net operating cash flow in the second quarter because it is a typical retention season. And although the summer campaign usually begins in middle June, our strategic focus on improving efficiency remains strong as ever, and we expect to see a meaningful profitability in the second quarter as well. So actually, we still see the second quarter as a quarter that will provide a meaningful profitability as well as a large deal of net operating cash flow.
I hope that addresses your questions. Thank you, Crystal.

Operator

This concludes our question-and-answer session. I would like to turn the conference back over to Sherry Liu for any closing remarks.

Sherry Liu

Thank you, operator. Thank you, everyone, for joining the call today. If you have any further questions, please don't hesitate to contact our Investor Relations department or our management via e-mail at ir.gaotu.cn directly.. You're also welcome to subscribe to our news alert on the company's IR website. Thank you very much again for your time. Have a great night.

Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.