Q2 2023 Dingdong (Cayman) Ltd Earnings Call

Participants

Liang Changlin; Founder, CEO & Director; Dingdong (Cayman) Limited

Nicky Zheng

Song Wang

Unidentified Company Representative

Chun-Yin Leung; Research Analyst; Daiwa Securities Co. Ltd., Research Division

Jiajing Chen; Analyst; China International Capital Corporation Limited, Research Division

Lixin Ju; VP in Equity Research & Research Analyst; BofA Securities, Research Division

Thomas Chong; Equity Analyst; Jefferies LLC, Research Division

Presentation

Operator

Good morning, and good evening, ladies and gentlemen. Thank you for standing by, and welcome to the Dingdong Limited Second Quarter 2023 Earnings Conference Call. (Operator Instructions). Please note that this event is being recorded.
I will now turn the conference over to the first speaker today, Nicky Zheng, Director of Investor Relations. Please go ahead, sir.

Nicky Zheng

Thank you. Hello, everyone, and welcome to Dingdong's Second Quarter 2023 Earnings Call. With us today are Mr. Liang Changlin, our Founder and CEO; and Mr. Song Wang, our Senior Vice President.
You can refer to our second quarter 2023 financial results on our IR website at ir.100.me. You can also access a replay of this call on our IR website when it becomes available a few hours later after its conclusion.
For today's call, management will provide their prepared remarks first, and then we will be hosting a question-and-answer session. Before we continue, I would like to refer you to our safe harbor statement in our earnings press release, which also applies to this call. As we will be making forward-looking statements, please note that all numbers stated in the following management's prepared remarks are in RMB terms, and we will discuss non-GAAP measures today, which are more thoroughly explained and reconciled to the most comparable measures reported in our earnings release and filings with the SEC. I will now turn the call to our first speaker today, the founder and the CEO of Dingdong, Mr. Liang.

Liang Changlin

[Interpreted] Hello, everyone, and welcome to Dingdong's 2023 Second Quarter Earnings Call. I'll stand by providing a brief overview of our operating performance in Q2 2023.
In the second quarter, we recorded RMB 4.84 billion in revenue with a non-GAAP net profit margin of 0.2%. If -- excluding onetime expenses, we were profitable on a GAAP basis. At the same time, if we exclude the impact of year-end bonuses issued in Q2, we were operating cash flow positive. This strong performance reflects our steadfast commitment to our efficiency first with due consideration of scale approach, which has resulted in 3 consecutive quarters of non-GAAP profitability.
Our GMV reached RMB 5.32 billion in Q2. A year ago, at the height of the pandemic, we successfully met surge in consumer demand by quickly adapting to difficulties across our supply chain and operations, which resulted in a strong operational performance. Despite the high base effect set in Q2 last year, we managed to achieve a 5% year-on-year increase in monthly order frequency surpassing 4 times per month for the first time. In addition, our ARPU increased by 8% year-on-year, and our member penetration rate improved greatly with members contributing 54% of the total GMV. This is a 10-percentage point year-on-year increase. Thanks to our product development capabilities and full-chain operational capacity. We also made continuous improvements to overall order quality and user stickiness, even with the retail environment normalized post pandemic. This reflects our commitment to optimizing operational efficiency to meet the evolving needs of our users.
Next, let me review our progress on the product front. Our exceptional product development capabilities are a key growth driver, enabling us to establish robust competitive advantages. We have developed numerous products that are unique to Dingdong and our brand is gaining popularity among users. This quarter, we launched the Delicious Kylin ranking, which highlights top-rated products that have been reviewed by experts and select users, assessing everything, including deliciousness, uniqueness and the amount of additives. This feature is creating significant growth opportunities for our outstanding products.
Since Free-Range Silkie Chicken was added to the Delicious Kylin ranking in April, we have seen a remarkable increase in exposure, transaction volume and customer loyalty. Our average monthly exposure has surged by 200%, while monthly average transaction volumes have skyrocketed by 360%. Additionally, the 30-day repurchase rate increased by 5.4 percentage points.
Another product that has grown, thanks to the Delicious Kylin ranking, is our private label Striped Mochi Roll (inaudible) Bakery. In the space of just 1 month, its average weekly exposure increased by 80% and its average weekly revenue more than doubled. Fueled by this new promotional channel, we're confident that more and more consumers will discover and appreciate our high-quality products in the future.
We're constantly striving to improve the user experience for our valued members. Our team has been hard at work customizing nearly 100 high-quality products exclusively to meet the unique needs of our members in East China. Our existing member benefits such as free dishes, member exclusive products, member exclusive discounts and super member days are just the beginning. We'll continue introducing even more benefits to incentivize and reward our loyal members.
We're proud to share that in the second quarter of this year, member GMV increased by 10 percentage points year-on-year and 2.4 percentage points sequentially, while their order frequency increased by 9% year-on-year and 5.2% sequentially. Despite the high base effect created by the pandemic last year, quarterly member ARPU increased by more than 10% year-on-year.
Next, I would like to update you on the progress we have made in our supply chain. Our supply chain improvement has been a key driver of our recent profitability alongside our product development capabilities. We have always adopted a long-term approach to every aspect of our operations through sustained investment in R&D and technology and continuous upgrades to every link in the supply chain, we now can digitally manage procurement, production, processing, warehousing, fulfillment and distribution, covering everything from people, goods, logistics and warehousing. Our proprietary algorithms enable us to predict order size with AI technology, perform category planning, optimize pricing, provide search recommendations, replenish supplies and manage inventory.
Even with thousands of frontline fulfillment stations, processing millions of FDC to SKUs daily, we still managed to upgrade our algorithm to drive consistent improvement in operational efficiency, resulting in a decrease of nearly 1 percentage point in the full chain loss rate of all categories in each of the past 3 years. Our loss rate of unusable goods has been carefully managed down to less than 0.5%, a rare achievement in the fresh food e-commerce industry.
Our order volume was up 2.3% sequentially. We're confident that there is still room for additional growth in the East China region and are working hard to optimize the network layout of our existing frontline fulfillment station. Our frontline fulfillment stations in East China saw a 5% increase in average daily order volume sequentially.
In the first half of this year, we upgraded split and optimized the layout of nearly 100 frontline fulfillment stations in East China, which has improved both our out-of-stock rate and fulfillment efficiency.
We're confident that we can achieve full year non-GAAP profitability in 2023 and that we will maintain a healthy and high-quality growth throughout the year.
Thank you all. That concludes my remarks. Next, I would like to invite Song Wang, our Senior Vice President and Head of Finance, to review the company's financial performance.

Song Wang

Thank you, Mr. Liang. Hello, everyone. Before I review our financial performance, please note that all of our figures are in RMB.
During Q2, we remained committed to achieving high-quality growth by following our efficiency first with due consideration of scale strategy. We have achieved non-GAAP profitability for 3 consecutive quarters through our ongoing efforts to improve operational efficiency and optimize costs and expenses. We also achieved a non-GAAP net profit margin of 0.2%. Additionally, if we exclude onetime expenses, we were profitable on a GAAP basis.
Now let's dive in. In Q2, GMV was RMB 5.32 billion, a decrease of 25.2% from the same time last year, while revenue was RMB 4.84 billion, a drop of 27%. As previously mentioned by Mr. Liang, the primary reason for the decrease was the high base effect created during the same period last year when the pandemic restrictions were impacting Shanghai and other regions.
During that period, we successfully navigated supply chain and operational challenges to fulfill the surge in consumer demand. Given the base effect and short-term macro headwinds, we experienced a decrease in average order value or AOV on a year-on-year and sequential basis. However, we remain confident that with the continued optimization of our product offerings and a gradually improving macroeconomic environment, AOV still has substantial room for growth.
Although gross margin decreased by 0.6 percentage points year-on-year in Q2, it remained stable overall at 31%. To achieve sustainable growth, we plan to continue focusing on product development as our core driver and deepen our supply chain engagement. Upgrading and optimizing our systems and algorithms will help improve operational efficiency in our supply chain, lower costs and increase profitability. We aim to establish this as our competitive advantage resulting in stronger profitability in the long term.
Fulfillment expense ratio increased by 0.4 percentage points year-on-year to 23.7%. This was due to last year's pandemic, which created a high AOV base effect. Despite this, our average order fulfillment costs decreased by 7.8% year-on-year, indicating continued improvement in our efficiency on the fulfillment side. We're committed to enhancing efficiency across every aspect of the fulfillment process, which is reflected in the significantly improved efficiency of our mainline logistics and transportation units.
Average mainline logistic cost per order dropped by 8.4% year-on-year. Additionally, we are passionate about conservation and environmental protection and achieved a 17.6% year-on-year reduction in the cost of packaging consumables per order.
Marketing expense ratio was 1.8%, down 0.4 percentage points compared to the same time last year. This highlights our success in using product development as our main source of traffic by creating distinctive and unique products that attract a greater number of target customers and boost user retention.
We're also pleased to report that our G&A expense ratio decreased by 0.5 percentage points compared to last year and is now at 1.8%. Our R&D -- while our R&D expense ratio increased by 0.3 percentage points year-on-year to 4.2%, we remain committed to investing in food, R&D, agricultural technology and our algorithms, while advocating for our conservation and environmental protection. These investments will strengthen our competitive advantage in the long run. Our infrastructure investment in these areas has already yielded significant efficiency improvement, and we have also adopted cloud computing, big data, e-commerce and supply chain applications to optimize our systems and reduce costs. As a result, our IT service costs decreased by 23.7% year-on-year in Q2, while maintaining consistent service quality and system stability.
During Q2, we achieved a non-GAAP net profit margin of 0.2%. As previously mentioned, after excluding onetime expenses, we were profitable on a GAAP basis. This demonstrates that we can conveniently improve our product development and full chain capabilities, leading to better operational efficiency and profitability even in the post-pandemic environment.
Operating cash outflow was RMB 178 million. We achieved positive operating cash flow when excluding the payment of year-end bonuses for 2022. Our cash and cash equivalents, short-term restricted cash and short-term investments totaled RMB 5.52 billion at the end of Q2. We proactively optimized our financing structure by reducing short-term and supply chain financial loans, which decreased the loan balance by RMB 127 million. Although this was the main reason for the decrease in our balance of cash, we have ensured sufficient operating funds to serve our suppliers with supply chain finance.
We are highly confident in our ability to retain non-GAAP profitability in the remaining quarters and for the full year of 2023. This concludes our speeches today. Operator, now we can enter the Q&A session.

Question and Answer Session

Operator

(Operator Instructions) The first question comes from Thomas Chong with Jefferies.

Thomas Chong

Hello, Mr. Liang, congratulations on achieving 3 consecutive quarters of non-GAAP profitability. Can you introduce the current development of the company in different regions? What is your specific focus in different regions?

Liang Changlin

[Interpreted] Thank you for your question. To address the challenges presented by the pandemic, we strategically prioritized our efforts in Shanghai during the first half of last year. As we progressed into Q3 and Q4, we shifted our focus to Jiangsu and Zhejiang. Our plan was to optimize efficiency, enhance order density and increase ROI in our existing focus areas before expanding further. Once the gross profit margin stabilize in East China, we could then concentrate on improving operational indicators in North and South China and expanding to new cities.
In retrospect, our strategic approach has proven to be well founded, the Jiangsu, Zhejiang and Shanghai regions have all experienced steady growth, with each contributing stable profits for 3 consecutive quarters. Based on operational data, daily order volume in Jiangsu and Zhejiang have increased by 27% and 21% year-on-year, respectively. These key performance indicators also demonstrate our ongoing success in East China.
Our product development capabilities in this region continue to improve, and we have developed the ability to rapidly analyze user feedback and iterate accordingly. This has contributed significantly to our ability to achieve results across different regions.
Since operations in North and South China began after those in East China, we expect that it will take some time for us to ramp up the unit economics and establish a strong presence in these areas. Nevertheless, we see significant potential for growth in these regions. In sum, we will focus on consolidating our market share in mature markets in East China to provide support for the development of our operations in North and South China.

Operator

The next question comes from Joyce Ju with Bank of America.

Lixin Ju

Good evening. We noted that the company exit the Sichuan and Chongqing region off late, just wanted to check if the company has given up on the market in the Southwest region? How should we understand the strategy direction -- strategic direction going forward?

Liang Changlin

[Interpreted] Thank you for your question. We decided to suspend our services in Chongqing and Chengdu in May of this year, following our extensive evaluation of the overall return from the region. The business volume from this Chongqing area comprised a small portion of our overall business and was not expected to be profitable anytime soon. Moreover, we determined that the surrounding city hubs will not support large-scale supply chain operations in the short term. As a result, we decided to exit the region temporarily. Our focus now is on cost reduction and efficiency improvement. We'll continue to focus on building a stable and profitable business in our core existing markets and consider expansion into new regions afterwards.
Despite the exit, we will continue to maintain [in-depth cooperation] with leading food companies in Sichuan and Chongqing.

Operator

Next question comes from Robin Leung with Daiwa.

Chun-Yin Leung

[Interpreted] I understand that Dingdong has been advertising the development capabilities and quality (inaudible), can you elaborate on your efforts in this area?

Liang Changlin

[Interpreted] Thank you for your question. Our primary focus is on product development capability as our core competitive advantage and growth driver. To achieve this, we have made the following specific optimization. We have made extensive efforts on the supply chain front. We cover a long and comprehensive section of the supply chain, sourcing over 80% of fresh products directly from the origin, including through a contract forming in the production areas. We have established (inaudible) standards for growers specifying protocols for fertilizer and testify use among other things, to ensure product quality and stability. This allows us to place orders before planting season at fixed price and volumes while controlling upstream quality.
For instance, our Red River Valley blueberries achieved tremendous success, generating nearly RMB 15 million GMV and over 400,000 purchases in just 1 month of online sales. This success was attributable to our extensive collaboration with purchases and growers to ensure optimal planting technology, management, quality control, taste and packaging. We secured 600 acres of production through contract farming resulting in our best-selling products of the season.
We have taken a unique approach to our private label products, distinguishing us from our peers, who usually rely on OEMs. At our company, we prioritize in-house R&D and production, resulting in better product quality, differentiation and higher production efficiency as well as greater control over production rhythm. Now connecting the front and back ends of our business enables us to respond promptly to customer demand based on data and user feedback. (inaudible) a low unit price product is a prime example of the success. With a quarterly GMV of nearly RMB 6 million and a quarterly repurchase rate of 35%, our private label products accounted for 16% of total GMV last year and 19% this quarter, and we aim to increase that to 30% in the future.
Additionally, our own product gross profit margin increased by over 3 percentage points compared to the same period last year.
Third, we have always advocated innovation and prioritized investment in food R&D. We can better align with consumption trends and attract new users by developing new product categories like prepared meals, bakery items and (inaudible). These categories not only command higher unit prices, but also offer higher gross profit margins. As a result, GMV in these categories is on the rise. Specifically, our prepared meals business officially launched Healthy Prepared Meals 2.0 this year, aiming to meet growing customer demands around nutrition and health. We will develop distinctive high-quality and differentiated prepared meals in line with this trend.
We've also taken steps to optimize our category structure specifically focusing on enhancing our older categories, while maintaining some accentual (inaudible) commodities. We have incorporated a greater range of mid- to high-end products. For instance, our vegetable category has been a top performer. Previously, it primarily consisted of L1 goods for everyday use. However, we have now expanded to L2 and L3 categories such as organic vegetables and specialty vegetables from high altitude and Rugao, the Village of longevity in Jiangsu. These additions are medium- and high-end products with relatively higher unit prices. Additionally, our quarterly GMV for local specialty vegetables, meat and poultry has reached nearly RMB 30 million.
Reflecting on the past year, we're thrilled to report a continuous increase in our gross profit margin and an average overall cost ratio. This achievement can be attributed to our successful utilization of product development capabilities as the primary source of traffic, resulting in a reduced reliance on external traffic. In essence, we have successfully established a competitive moat.

Operator

The next question comes from Jiajing Chen with CICC.

Jiajing Chen

[Interpreted] We've seen that Dingdong has been profitable for 3 consecutive quarters. What is your strategy to ensure sustained profitability in the future?

Liang Changlin

[Interpreted] Thank you for your question. Our Head of Finance is going to take this question.

Unidentified Company Representative

[Interpreted] All right. Thank you, Mr. Liang. As we continue to execute our efficiency first with due consideration of scale strategy, we have achieved 3 consecutive quarters of non-GAAP profitability since Q4 2022.
We've also achieved GAAP profitability excluding the onetime impact of (inaudible) adjustment this quarter. This is mainly due to our continued focus on honing our product development capabilities and improving our operational capacity to serve user better. Our overall order quality and user loyalty are improving as we optimize operational efficiency.
Specifically, since our strategic adjustment in 2021, we have adjusted our category mix. In terms of GMV, this has led to a 7 percentage point increase in the proportion of non-fresh foods and particularly prepared meals whose proportion increased by 4 percentage points and private label products whose proportion increased by nearly 13 percentage points, emerging the range of products available to consumers.
Additionally, the number of SKUs per station has increased nationwide by around 500 with Shanghai seeing an increase of over 1,000 SKUs compared to 2021. The new additions are mainly prepared meals and nonfresh products. With these changes, the AOV has increased to RMB 72.9 nationwide in the first half of the year, with Shanghai seeing an increase to RMB 75.8, while the gross profit margin nationwide has remained stable at around 31% since last year.
While restructuring the national market, we focused on expanding in the East China region and increasing profitability there. Shanghai achieved overall profitability since Q1 2022, and Jiangsu and Zhejiang have achieved 3 consecutive quarters of profitability since Q4 2022. In terms of mature market growth, Jiangsu and Zhejiang recorded double-digit year-on-year growth in daily order volume per station. Despite the pandemic impact last year, Shanghai had a positive Q1, reaching an average daily order volume of 1,300 to 1,400. As the East China region becomes more profitable, we're focused on expanding it. There is room for improvement in order penetration and average order volume per station in Jiangsu and Zhejiang compared to Shanghai. Additionally, we plan to improve our operating capabilities in North China and South China in the second half of the year.
Meanwhile, we are working to improve our full chain operational capability. On one hand, we are investing in IT innovation to improve the systems and algorithms that can boost our end-to-end operational efficiency. And we have already seen some promising early results from this. As mentioned above, the platform's end-to-end loss, including processing loss continues to narrow and has stabilized within 1.5% in 2023.
As the post pandemic situation stabilized this year, we optimized our regional network layout, adjusted frontline fulfillment station stock and improved mainline delivery efficiency with algorithms for end-to-end order fulfillment.
Frontline station operational capabilities are also continuously improving. After excluding the impact of the pandemic, the efficiency of personnel, both inside and outside frontline stations have steadily improved. Despite initial adjustment costs and the impact on the pandemic, fulfillment costs improved throughout the year, resulting in a 1.2 percentage points decrease year-on-year during the first half of this year and a 9.2% decrease year-on-year in cost per order.
That said, the company will continue to prioritize efficiency in the East China market and optimize product structure while improving operational efficiency in the North and South China regional markets. Our focus will remain on product development and building full chain operational capacity. Based on this, we are confident that we'll continue achieving non-GAAP profitability in Q3 and Q4 and for the full year of 2023.

Operator

As there are no further questions, I'd like to hand the conference back to our management for closing remarks.

Nicky Zheng

Thank you again for joining our call today. If you have further questions, please feel free to contact [Raise a Request] through our IR website. We look forward to speaking with everyone in our next earnings call. Have a good day.

Operator

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.
[Portions of this transcript that are marked [Interpreted] were spoken by an interpreter present on the live call.]