Q2 2023 Yatsen Holding Ltd Earnings Call

Participants

Donghao Yang; CFO & Director; Yatsen Holding Limited

Irene Lyu; Head of Strategic Investments & Capital Markets; Yatsen Holding Limited

Jinfeng Huang; Founder, CEO & Chairman of the Board of Directors; Yatsen Holding Limited

Qianye Lin; Research Analyst; China International Capital Corporation Limited, Research Division

Vivi Huang; Research Associate; Morgan Stanley, Research Division

Presentation

Operator

Ladies and gentlemen, good day, and welcome to the Yatsen's Second Quarter 2023 Earnings Conference Call. Today's conference call is being recorded. At this time, I would like to turn the conference over to Irene Lyu, Vice President, Head of Strategic Investment and Capital Markets. Please go ahead.

Irene Lyu

Thank you, operator. Please note the discussion today will contain forward-looking statements relating to the company's future performance and are intended to qualify for the safe harbor from liability as established by U.S. Private Securities Litigation Reform Act. Such statements are not guarantees of future performance and are subject to certain risks and uncertainties, assumptions and other factors.
Some of these risks are beyond the company's control and could cause actual results to differ materially from those mentioned in today's press release and this discussion.
A general discussion of the risk factors that could affect Yatsen's business and financial results is included in certain filings of the company with the Securities and Exchange Commission. The company does not undertake any obligation to update this forward-looking information, except as required by law.
During today's call, management will also discuss certain non-GAAP financial measures for comparison purposes only. Please see the earnings release issued earlier today for a definition of non-GAAP financial measures and a reconciliation of GAAP to non-GAAP financial results.
Joining us today on the call from Yatsen's senior management are Mr. Jinfeng Huang, our Founder, Chairman and CEO and Mr. Donghao Yang, our CFO and Director. Management will begin with prepared remarks, and the call will conclude with a Q&A session.
As a reminder, this conference is being recorded. In addition, a webcast replay of this conference call will be available on Yatsen's Investor Relations website at ir.yatsenglobal.com. I'll now turn the call over to Mr. Jinfeng Huang. Please go ahead, David.

Jinfeng Huang

Thank you, Irene, and thank you, everyone, for participating in Yatsen's Second Quarter 2023 Earnings Conference Call today. The beauty industry experienced a modest post-COVID recovery during the second quarter of 2023. According to the National Bureau of Statistics of China, total retail sales of consumer goods grew by 10.7% year-over-year while declining by 2% quarter-over-quarter. More specifically, beauty retail sales rose by 11.5% year-over-year and 0.8% quarter-over-quarter in the second quarter.
The year-over-year growth was partially affected by the prior year period, low base, while quarter-over-quarter growth indicated a mild recovery pattern during the quarter. Online beauty sales also rebounded and demonstrated by the beauty sales growth on Tmall and Douyin on both a yearly and quarterly basis, mainly driven by promotion activities during the June 18 shopping festival.
Against the industry backdrop, we continued to focus on rebalancing our category mix expanding gross margins and improving net margins through enhanced operational efficiency. Our business transformation remained largely on track, evidenced by our second quarter revenue beating the guidance we provided previously.
Net revenues from our Skincare Brands increased by 2.3% year-over-year to RMB 325.2 million. Within Skincare, our clinical and premium brands delivered another solid performance. With Galenic, DR. WU and Eve Lom, recording 13.3% year-over-year growth in combined net revenues. With respect to revenue contribution, our Skincare Brands accounted for 37.9% of total net revenues in the second quarter, up from 33.4% in the prior year period.
Revenues from Color Cosmetics declined in the second quarter Perfect Diary continued to undergrow our brand transformation. Furthermore, the number of Perfect Diary offline stores totaled 136 as of the end of the second quarter compared with 228 a year ago as a result of targeted closures of underperforming off-line stores.
Our product mix optimization as well as our disciplined approach to discounts and promotions continued to drive improvements in our overall gross margin, which has demonstrated a clear upward trend over the past 4 quarters. We also improved our net margin year-over-year, reflecting our effective cost reduction and channel optimization strategies.
Turning to our products. Beyond our investments in the existing hero products, we also introduced new Skincare Products during the quarter. One highlight was Galenic's Secret D'Excellence active cream, a new anti-aging product enhanced with our patent SnowLG-peptide to promote collagen reproduction. Additionally, several of our existing hero products received recognition this quarter with Galenic antioxidant #1 VC serum, ranking #1 in both Tmall, Austin Li's live stream premium brightening serum category and Douyin premium serum category during the June 18 shopping festival. Eve Lom also turned in a solid performance during June 18, with the Eve Lom cleanser coming in first, among premium cleanser products on Tmall.
For our Color Cosmetics brands, we continued to advance product development, releasing high-quality products with strengthened functional features. During the second quarter, Perfect Diary launched its (inaudible) Holiday collection, tailored for somewhere as well as translucent blurring longwear foundation, which delivers a long-lasting flawless finish.
We also wrote out new and upgraded products for Little Ondine and Pink Bear, driving growth in both brands. Little Ondine made the Tmall June 18 top 100 best-selling list with this brand-new 3D shadow and highlighter eyeliners, while Pink Bear launched its new jelly lipstick.
Brand building remains a critical component of Yatsen's long-term strategy. In July, 2 of our Skincare Brands, Galenic and DR. WU participated in the World Congress of Dermatology in Singapore, raising this brand's awareness among an internationally renowned group of clinicians, scientists and industry professionals. DR. WU also celebrated its 20-year anniversary this summer, a testament to support us enduring popularity and the strength of its brand equity.
Moving on to our recent R&D achievements. Our R&D expenses reached 3% as a percentage of total net revenues, reflecting our continuous efforts in scientific advancement and product development. We are pleased to report that in June, we took our partnership with Ruijin Hospital, an affiliate of the Shanghai Jiao Tong University School of Medicine. To the next level, we see official unveiling of the Yatsen Region Medical skincare joint laboratory in Shanghai. We formed this alliance with Ruijin Hospital to jointly conduct research on skin disease, mechanisms and developed efficient skincare products, leveraging Yatsen's deep experience and the strong capabilities as well as (inaudible) remarkable achievements in resource integration across the beauty industry, educational and research institutions and hospitals. We look forward to advancing the future of skincare together.
Furthermore, operations of the Guangzhou manufacturing hub, we established with Cosmax, officially commenced on August 11, enabling further optimization of our supplying chain. Powered by these developments and our enhanced capabilities, we are confident about the prospect to successfully explore and launch more hero products in the future.
Before I conclude, I would like to mention that we recently released our 2022 environmental, social and governance, or ESG report, marking our second consecutive year of ESG reporting. We are proud to provide a comprehensive review of our ESG initiatives and developments, including corporate governance, research and development, employees right protection, human capital development, environmental sustainability and social responsibility, among others. We are grateful for the opportunity to demonstrate our commitment to creating a better society by fulfilling our corporate social responsibilities.
To summarize, China's beauty market is still finding its footing in the post-pandemic era. And we understand that the recovery pattern of consumer demand remains uncertain. However, our strategy transformation is proceeding as planned and our portfolio of strong distinctive brands as well as our sufficient financial resources will empower us to adapt its flexibility.
We will continue to build our brands across the broad, elevating our skincare brands growth while positioning our Color Cosmetic brands for success in the future. With that, I will now turn the call over to our CFO, Donghao Yang, to discuss our financial performance. Thank you, everyone.

Donghao Yang

Thank you, David, and hello, everyone. Before I get started, I would like to clarify that all financial numbers presented today are in Renminbi amounts and all percentage changes referred to year-over-year changes unless otherwise noted.
Total net revenues for the second quarter of 2023 decreased by 9.8% to RMB 858.6 million from RMB 951.8 million for the prior year period. The decrease was primarily attributable to a 16.6% year-over-year decrease in net revenue from Color Cosmetics brands, partially offset by a 2.3% year-over-year increase in net revenues from Skincare Brands.
Gross profit for the second quarter of 2023 increased by 7.2% to RMB 641.6 million from RMB 598.3 million for the prior year period. Gross margin for the second quarter of 2023 increased to 74.7% from 62.9% for the prior year period. The increase was driven by first increasing sales of higher gross margin products from skincare brands; second, more disciplined pricing and discount policy; and third, cost optimization across all of our brands' portfolios.
Total operating expenses for the second quarter of 2023 decreased by 11.3% to RMB 776.7 million from RMB 875.3 million for the prior year period. As a percentage of total net revenues, total operating expenses for the second quarter of 2023 were 90.5% as compared with 92.0% for the prior year period.
Fulfillment expenses for the second quarter of 2023 were RMB 58.3 million as compared with RMB 69.7 million for the prior year period. As a percentage of total net revenues, fulfillment expenses for the second quarter of 2023 decreased to 6.8% from 7.3% for the prior year period. The decrease was primarily attributable to a decrease in warehouse and logistics costs due to the outsourcing of most of our warehousing and handling operations.
Selling and marketing expenses for the second quarter of 2023 were 542.8 million as compared with 625.7 million prior year period. As a percentage of total net revenues, selling and marketing expenses for the second quarter of 2023 decreased to 63.2% from 65.7% for the prior year period. The decrease was primarily attributable to the closure of underperforming off-line stores and a reduction in share-based compensation related to the decrease in selling and marketing head count, partially offset by an increase in online advertising expenses.
General and administrative expenses for the second quarter of 2023 were RMB 149.7 million as compared with RMB 147.8 million for the prior year period. As a percentage of total net revenues, general and administrative expenses for the second quarter of 2023 increased to 17.4% from 15.5% for the prior year period. The increase was primarily attributable from increase in share-based compensation, combined with the deleveraging effect of lower total net revenue in the second quarter of 2023.
Research and development expenses for the second quarter of 2023 were RMB 25.9 million as compared with RMB 32 million for the prior year period. As a percentage of total net revenues, research and development expenses for the second quarter of 2023 decreased to 3% from 3.4% for the prior year period. The decrease was primarily attributable to our efforts to maintain research and development expenses at a reasonable level relative to total net revenue.
Loss from operations for the second quarter of 2023, decreased by 51.2% to RMB 135.1 million from RMB 277 million for the prior year period. Operating loss margin was 15.7% as compared with 29.1% for the prior year period. Non-GAAP loss from operations for the second quarter of 2023 decreased by 65.8% to RMB 74.6 million from RMB 218.2 million for the prior year period.
Non-GAAP operating loss margin was 8.7% as compared with 22.9% for the prior year period. Net loss for the second quarter of 2023 decreased by 59% to RMB 108.5 million from RMB 264.3 million for the prior year period. Net loss margin was 12.6% as compared with 27.8% for the prior year period. Net loss attributable to Yatsen's ordinary shareholders per diluted ADS for the second quarter of 2023 was RMB 0.2 as compared with RMB 0.43 for the prior year period.
Non-GAAP net loss for the second quarter of 2023 decreased by 77.7% to RMB 46.3 million from RMB 207.5 million for the prior year period. Non-GAAP net loss margin was 5.4% as compared with 21.8% for the prior year period. Non-GAAP net loss attributable to Yatsen's ordinary shareholders per diluted ADS for the second quarter of 2023 was RMB 0.08 as compared with RMB 0.34 for the prior year period.
As of June 30, 2023, we had cash, restricted cash and short-term investments of RMB 2.57 billion as compared with RMB 2.63 billion as of December 31, 2022. Net cash used in operating activities for the second quarter of 2023 was RMB 14.4 million compared with net cash generated from operating activities of RMB 111.9 million for the prior year period.
Looking at our business outlook for the third quarter of 2023, we expect our total net revenues to be between RMB 686.3 million and RMB 772.1 million representing a year-over-year decline of approximately 10% to 20%. These forecasts reflect our current and preliminary views on the market and operational conditions, which are subject to change. With that, I would now like to open the call to Q&A.

Question and Answer Session

Operator

(Operator Instructions) The first question today comes from Qianye Lin with CICC.

Qianye Lin

And I've got 2 questions. The first question is regarding profitability. So are we still on check the full year profit. Looking ahead, what are the key drivers that will boost our profitability in the second half of the year. And this is for the first question.
And about the second question is regarding growth of Color Cosmetics. We've seen the launch of Perfect Diary, new foundation product. And how has the sales performance been so far? Could you provide insight into the upcoming strategies for Color Cosmetics in the second half of the year? And is there any chance that Color Cosmetics return to growth in the second half of the year? That's my question.

Donghao Yang

Well, thank you very much for your questions. All right. For your first question on profitability, I think we're still on the right track, to improve -- continually improve our profitability over time. If you compare this quarter with the same quarter last year, there will be improvement on profitability that has been very significant.
And your second question, PD found... Well, we've just launched the foundation product for Perfect Diary. It is still too early for us to tell how the new product will perform, but for the second half of the year, especially towards the end of Q3 and beginning of Q4, we're going to launch a major brand upgrade campaign and new product launch for Perfect Diary. We are making preparations for that major campaign, but it's still too early to tell how the campaign will turn out. And there, of course, there will be some uncertainty around the success of that campaign, but we are very confident that -- we can -- we will try our best and hopefully, we can make it a huge success.

Operator

(Operator Instructions) The next question comes from Vivi Huang with Morgan Stanley.

Vivi Huang

This is Vivi from Morgan Stanley. So I have 2 questions, firstly is on the industry part. So could management give us some color on what is the industry competition like as we enter into the third quarter? Like how is it like in terms of the competition, especially on online and live streaming channels. And I know that this might be a little bit far, but how should we expect on like Double 11 Festival this year? Do you see like if there is any possibility that promotional level will likely to intensify on a year-on-year basis or maybe just compared to 618 Festival this year.
Secondly, I would like to ask on our off-line store strategy. Do we expect further store disclosure when we enter into the second half? This is the question that I will have.

Irene Lyu

Yes. Thanks, Vivi, for the question. So on the first question, in terms of the industry outlook and the competition landscape, so what we see is we saw a modest recovery pattern during the second quarter, even though the year-over-year growth rate was good, but it was a low base last year given the lockdown of Shanghai and other cities in Q2 last year. If you look at the quarter-over-quarter growth pattern is actually largely flat, so which implies a recovery by the relatively mild recovery. And we think the beauty market, different segments are all growing, even like within current economic condition, (inaudible) segment is still growing, but at a slightly lower rate. So we do expect that the China beauty market still have headroom to grow given the per capital beauty segment is still relatively low compared to other mature markets.
And then looking at competition, over time, we have seen that competition has been intensifying and they're actually divergent performance among different categories and different brands. And one of the very obvious trend is brands with strong product equities and when equities are actually outperforming compared to others. And also consumer behavior has shifted a little bit from previous impulsive buying habits towards more rational behavior, which also kind of demonstrates that (inaudible) with very strong efficacy and functional value actually probably (inaudible) more consumer attention and buy it. So those are some of the key trends that we have managed in the industry.

Donghao Yang

Yes. And your second question, in the past 2 years, we've closed around 150 stores of our off-line stores and most of which we're obviously underperforming and loss-making stores. And going forward, I think we will continue to optimize some of it's worse, but I don't think that we're going to close a substantial number of stores down the road, but optimization will always be our strategy.

Operator

(Operator Instructions) That concludes the question-and-answer session. I would like to turn the conference back over to management for any additional or closing comments.

Irene Lyu

Thank you once again for joining us today. If you have any further questions, please feel free to contact us at Yatsen directly or at Piacente Investor Relations. Our content information for IR in both China and the U.S. can be found in today's press release.
Thank you, and have a great day.

Operator

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