LAIX Inc. (LAIX) Q4 2018 Earnings Conference Call Transcript

LAIX Inc. (LAIX)
Q4 and Full Year 2018 Earnings Conference Call
Feb. 27, 2019, 8:00 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants
  
  See all our earnings call transcripts.

Prepared Remarks:

Operator

Hello, ladies and gentlemen. Thank you for standing by for the LAIX Inc.'s Fourth Quarter and Full Year 2018 Earnings Conference Call. At this time, all participants are in a listen-only mode. After management's prepared remarks, there will be a question and answer session. Today's conference call is being recorded. I will now turn the call over to your host, Miss Chuhan Wang, Investor Relations for the company. Please go ahead, Chuhan.

Chuhan Wang -- Head of Strategy and Growth, Investor Relations

Hello, everyone, and welcome to the Fourth Quarter and Full Year 2018 Earnings Conference Call for LAIX Inc, also known as Liulishuo. The company's results were issued by newswire services earlier today and are posted online. You can download the earnings press release and sign up for the company's distribution list by visiting the IR section of our website at ir.laix.com.

Dr. Yi Wong, our CEO and Founder, and Miss Bin Yu, our CFO, will begin with some prepared remarks. Following the prepared remarks, Mr. Zheren Ben Hu, our CTO and Co-founder, and Mr. Hui Lin, our Chief Scientist and Co-founder, will also join us for the Q&A session.

Before we continue, please note that today's discussion will contain forward-looking statements. These statements are made under the Safe Harbor Positions of the U.S. Private Securities Litigation Reform Act of 1995. These forward-looking statements can be identified by terminology such as will, expect, anticipate, aim, future, intent, plans, beliefs, estimates, confident, potential, continue, or other similar expressions. Among other things, the outlook and quotations from management in this announcement as well as LAIX's strategic and operational plans contain forward-looking statements. LAIX may also make written or oral forward-looking statements in its periodic reports to the U.S. Securities and Exchange Commission, in its annual report to shareholders, in press releases, and other written materials and the oral statements made by its officers, directors, or employees to third parties.

Statements that are not historical facts, including but not limited to statements that LAIX believes and expectations, are forward-looking statements. Forward-looking statements involve inherent risks and uncertainties, and a variety of factors could cause actual results to differ materially from those contained in any forward-looking statement. Further information regarding these and other risks is included in the company's filings with the Securities and Exchange Commission. All information provided in this press release and in the attachments is as of the date of the press release, and the company undertakes no duty to update such information except as required under applicable law.

During today's call, management will also discuss certain non-GAAP financial measures for comparison purposes only. For a definition of non-GAAP financial measures and a reconciliation of GAAP to non-GAAP financial results, please see the earnings release issued earlier today.

I will now turn the call over to our CEO, Dr. Yi Wang. Please go ahead.

Yi Wang -- Chairman of the Board of Directors and Chief Executive Officer

Thank you, Chuhan. Thank you for joining our Fourth Quarter and Full Year 2018 Earnings Conference Call. 2018 was a milestone year for us as we successfully completed our IPO on the renowned New York Stock Exchange on September 27th, 2018. We believe the cash proceed and additive brand recognition generated from the IPO will deliver meaningful value for our business in the years to come.

We are pleased to report another strong quarter that capped off a solid year. Fourth quarter net revenues increased by approximately 195% year-over-year to RMB224.5 million. Full year 2018 net revenues and gross billing grew by approximately 285% and 215% respectively compared with the prior year. Such outstanding performance was driven by the continued robust growth of our overall business and the user base expansion. Our cutting edge technologies, big data, and well-established education pedagogies underpinned our growth strategy.

 In 2018, our formative feedback system was awarded first place in the spoken Computer-Assisted Language Learning challenge, jointly organized by the University of Geneva, the University of Birmingham, Radboud University, and the University of Cambridge, demonstrating the leadership that we have in applying AI to language learning.

Over the course of the full year 2018, our flagship app, English Liulishuo experienced solid expansion powered by our AI teacher that provides personalized teaching and guidance for all core components of a user's language learning process. Furthermore, our AI teacher continuously evolves and delivers more personally tailored learning programs while leveraging our massive volume of labeled user data. As of December 31st, 2018, we had recorded approximately 26.3 billion sentences and 2.0 billion minutes of conversations covering a broad range of geographic distribution and proficiency levels.

As a pioneer in the AI-powered English learning market, we are benefiting from the growing trend of education upgrades in China. We're pleased to see that our advanced platform with industry-leading courses and services have appealed to a broader student population with a total of 110.3 million registered users as of December 31st, 2018 compared with 61.3 million as of December 31st, 2017. Our premium bundle is pivotal to our strategy to expand our user base and drive user conversion. The rich content and the interactive features within the free courses increase use engagement and retention while the paid AI-based systematic learning solutions helped convert active users to paying customers.

A recent study by the Centre of Research in English Language Learning and Assessment at the University of Bedfordshire showed that after approximately two months of studying and using English Liulishuo, users English learning proficiency was significantly improved, benefiting by the higher learning efficacy of our product. The total number of paying users who purchased the courses and services on our platform grew more then three-fold to 2.5 million in 2018 compared with 815,700 in 2017.

The progress we made in 2018 laid a strong foundation for us, and we expect to continue the successful momentum while further expanding our user base, enhancing use engagement, and improving the learning experience through the application of new technologies, content, products, and features.

Moreover, given the high scalability and the versatile nature of our business model, we see tremendous opportunities to expand our adjustable markets in English learning and beyond. First, we have already expanded offerings within the English learning vertical to test preparation with our IELTS Liulishuo app added to the enterprise market with our enterprise learning services. Second, we are also working on tailoring our AI-powered English learning products to target younger demographics, including K-12 students. Third, while our footprint has so far mainly been in China, we are constantly looking for ways to increase our global presence. And lastly, our AI technologies can be used in non-English languages or even for non-English learning, presenting us with huge growth potential in the long run. Notably, our speech recognition engine already supports six other languages besides English.

As we start another year with excitement and optimism, we believe our dedication to advancing our proprietary AI technologies, providing innovative and differentiated products, and creating superior personalized learning experiences that result in higher user engagement learning efficiency and efficacy is what sets us apart and allows us to succeed in the long run. While we have a long way to go, as we are in the early stages of AI-powered education 3.0, we remain committed to our mission of empowering everyone to realize their full potential.

This concludes my prepared remarks. I will now turn the call over to our CFO, Miss Bin Yu, who will discuss our key financial results.

Bin Yu -- Chief Financial Officer

Thank you, Yi, and hello, everyone. We made significant strides in 2018 to position our company for long-term sustainable growth. Our strong financial performance, in particular our robust topline growth, was a clear indication of our compelling scalable model and our strong competitive position. As we are building our brand awareness and driving our user base, our sales and marketing expenses increased in terms of absolute dollars in 2018. This is within our expectations, and at the same time, we are striving to optimize the return on our marketing investments. Due to our scalable business model and high revenue growth, sales and marketing expenses as a percentage of net revenue declined to 111% in 2018 from 171% in 2017. Let us now begin by looking at our key financial matrix in the fourth quarter. In the interest of time, I will speak to the highlights of our results. Rather than a line-by-line review, I'd encourage listeners to refer to our earnings release for more details.

Net revenues for the fourth quarter of 2018 were RMB224.5 million, or $32.6 million, a 195% increase from RMB76.1 million for the same quarter last year. The significant increase was primarily attributable to the growth of the company's business and the platformwide expansion of the company's paying user base as well as to the increased adoption of AI teacher among users in China as an effective learning approach and a better alternative to the traditional ways of the English learning.

Cost of the revenues for the fourth quarter of 2018 was RMB71.7 million, or $10.4 million, a 231% increase from RMB21.6 million for the same quarter last year. The increase was primarily due to the increase in, 1.) Salaries and benefits for certain full-time employees, 2.) IT service cost, and 3.) Service fees paid to contract human teachers for our premium service, with all such cost resulting from the company's general business growth and user base expansion.

Gross profit for the fourth quarter of 2018 was RMB152.8 million, or $22.2 million, a 181% increase from RMB54.4 million for the same quarter last year. As a result, gross margins for the fourth quarter of 2018 was 68% compared to 72% for the same quarter last year.

Total operating expenses for the fourth quarter of 2018 was RMB312.5 million, or $45.5 million, an 89% increase from RMB165.6 million for the same quarter last year with higher expenses primarily resulting from business growth activities, the development and introduction of new products, and the costs associated with the expansion of our user base.

Sales and marketing expenses for the fourth quarter of 2018 were RMB241.7 million, or $35.2 million, a 78% increase from RMB136.2 million for the same quarter last year. The increase was primarily due to higher branding and marketing expenses and salaries and benefits for sales and marketing personnel, including our online study advisors. Importantly, sales and marketing expenses as a percentage of net revenues declined notably to 108% for the fourth quarter of 2018 compared with 179% for the same quarter last year.

Research and development expenses for the fourth quarter of 2018 were RMB53.7 million, or $7.8 million, a 148% increase from RMB21.6 million for the same quarter last year, primarily due to an increase in salaries and benefits for research and development personnel. Research and development expenses as a percentage of net revenues declined to 24% for the fourth quarter 2018 compared with 28% for the same quarter last year.

General and administrative expenses for the fourth quarter of 2018 was RMB17.1 million, or $2.5 million, a 120% increase from RMB7.8 million for the same quarter last year, primarily attributable to the increases in our human resource expenses and office expenses. General and administrative expenses as a percentage of net revenues were 8% for the fourth quarter of 2018 compared with 10% for the same quarter last year.

Loss from operations for the fourth quarter of 2018 was RMB159.7 million, or $23.2 million, compared with RMB111.1 million for the same quarter last year. Adjusted EBITDA for the fourth quarter of 2018 was a loss of RMB149.1 million, or $21.7 million, compared with an adjusted EBITDA loss of RMB105.6 million for the same quarter last year.

Foreign exchange gain was RMB0.1 million, or $20,000.00, in fourth quarter of 2018 compared with the foreign exchange gain of RMB1.8 million for the same quarter last year. Net loss for fourth quarter of 2018 was RMB163.4 million, or $23.8 million, compared with RMB110.9 million for the same quarter last year. Adjusted net loss for the fourth quarter of 2018 was RMB157 million, or $22.8 million, compared with RMB108.6 million for the same quarter last year. Basic and diluted net loss per ordinary share attributable to ordinary shareholders for the fourth quarter of 2018 was RMB3.41, or $0.50, compared with RMB6.05 for the same quarter last year.

Turning to some highlights for full year, we are pleased to finish 2018 on a strong note by achieving a year-over-year growth of 285% in net revenues. We also improved our gross profit margin to 73% for the full year 2018 from 65% for the preceding year. Total operating expenses for full year 2018 were RMB926 million, or $134.7 million, a 160% increase from the preceding year. As a result, net loss for the fiscal year 2018 was RMB488.1 million, or $71 million, compared with RMB242.8 million for the preceding year. Lastly, adjusted net loss for the fiscal year 2018 was RMB442.6 million, or $64.4 million, compared with RMB234.2 million for the preceding year.

In terms of our balance sheet, as of December 31, 2018, the company had a total cash and cash equivalence of RMB344.7 million, or $50.1 million, excluding the IPO proceeds received on October 1st, 2018, compared with RMB416.5 million as of December 31st, 2017. The company had deferred revenues both current and non-current of RMB477.6 million, or $69.5 million, as of December 31st, 2018, compared with RMB116.4 million as of December 31st, 2017.

Turning to our outlook, for the first quarter of 2019, we currently expect net revenues to be between RMB240 million to RMB260million, which would represent an increase of approximately 148% to 169% from RMB96.8 million for the same quarter last year. We expect to see similarity in the first quarter due to the January 1st and Chinese New Year holidays. This forecast reflects the company's current and preliminary review on the current business situation and market conditions, which is subject to change.

...

This concludes our prepared remarks. We will now open the call to questions. As a reminder, Mr. Zheren Ben Hu, our CTO and Co-founder, and Mr. Hui Lin, our Chief Scientist and Co-founder, are joining us for the Q&A session. Operator, please go ahead.

Questions and Answers:

Operator

Certainly. To ask a question, please press *1 on your telephone keypad. To withdraw your question, press #. For the benefit of all participants on today's call, if you wish to ask your question to management in Chinese, please immediately repeat your question in English.

Your first question comes from the line of Timothy Zhao with Goldman Sachs. Your line is open.

Timothy Zhao -- Goldman Sachs -- Analyst

Hi, management. Thanks for taking my question and congrats on the strong quarter and a great year. I have two questions. The first question is on the gross margin. I see the gross margin for this quarter was around 68%. It's a bit lower than the previous quarters. Would you elaborate more on the drivers behind that and how we should expect going forward? And second question is on the user acquisition cost or the sales and marketing cost per paying user. I see it as being quite stable in the past few quarters, so what do you think the trend as move into 2019? Thank you.

Bin Yu -- Chief Financial Officer

I will take this question. This is Bin Yu, CFO of the company. For your first question, the reason why the gross margin declined slightly was due to the VIP service we introduced for last quarter of 2018. We offered a RMB3,000 SKU for one year. In this small class SKU, we have some human teachers to help the students, so we booked the costs, the salaries and benefits paid to this human teachers in the cost of goods sold, which drives down the gross margin slightly.

For the second quarter, for the cost of user acquisition, as you state, we do have a quite stable trend. We have applied an integrated strategy to monitor our CAC, and we believe our rich content, different product mix, and the increased brand awareness will help us to attract more organic traffic which will lower our CAC budget. Overall, we've been able to maintain a stable CAC despite the traffic's getting more and more expensive across different channels. I hope this will help to answer your questions.

Timothy Zhao -- Goldman Sachs -- Analyst

Sure, thank you. Thank you, Bin.

Operator

Your next question comes from the line of Sheng Zhong with Morgan Stanley. Your line is open.

Sheng Zhong -- Morgan Stanley -- Equity Analyst

Thank you for taking my question. So, the first question is can you give us some breakdown of your paying user? It's grow very fast in this quarter, so want to know how many of them are the first-time user and how many of them are the repurchase ones and the average lifetime using your course, the average usage time. And secondly is a follow-up on the gross margin. What's your outlook of the gross margin trend? And since you mentioned that this is mainly because of the VIP costs, so how much percent of the VIP cost in terms of your revenue? And the last one is Yi talked about a long-term strategy. That is very helpful, so can you please give some more timeline of the strategy? Thank you.

Zheren Ben Hu -- Director and Chief Technology Officer

This is Zheren Ben Hu. I will take the first question about user breakdown. Bin and Yi mentioned in the previous section of the paying customer had increased from 815,700 for the full year of 2017 to 2.5 million for the full year of 2018. The growth itself is tremendous, and at this moment, we do not close the very clear breakdown about first-time user and then the repeated paying users at this moment.

Bin Yu -- Chief Financial Officer

This is Bin. I will take the gross margin outlook. For the gross margin, as I mentioned earlier, the decline from previous quarter is mainly due to the introduction of a new, higher-priced SKU, the RMB3,000 SKU for one-year class. And because this is a new product, so we're still trying to improve the efficiency of the product by improving the OSE management procedures. But looking forward, the gross margin will be driven by different product mix, and we believe with our AI model, we'll be able to maintain a higher gross margin than the normal industry gross margin benchmark.

Yi Wang -- Chairman of the Board of Directors and Chief Executive Officer

This is Yi Wang. I will answer the growth strategy question. As I mentioned before, we have a long-term commitment and excitement on this AI-plus education approach in general. As some of you guys may know, at the end of last year, we launched a new product, a new app, a new product line called Shaoer Liulishuo in Chinese, or Kid's Liulishuo. It has hit the market, and the initial user feedback on the product use has been pretty positive. Obviously, it's in the very early stages. We have several other products or SKUs in the pipeline, both in adult English learning market and in the kids. We remain dedicated to the growth of the user base for our flagship product English Liulishuo and AI-powered paid-course DongNi English. And notably, our Liuli reading product in adult English learning sector has also been growing very rapidly. We continue to be committed and on the lookout for different opportunities to penetrate into different markets including different demographic user groups and the geographic locations. We will update the market when we have solid developments that we wanna share with you. Thank you.

Sheng Zhong -- Morgan Stanley -- Equity Analyst

Thank you, management.

Operator

Again, if you'd like to ask a question, please press *1 on your telephone keypad.

Your next question comes from the line of Christine Cho with Goldman Sachs. Your line is open.

Christine Cho -- Goldman Sachs -- Analyst

Hi. Thank you and congrats on a great quarter. I just had a really quick follow-up question on the kid's program that you've just launched. Can you just give us a little bit more detail around pricing, target, and also competitive differentiation versus a lot of the other offerings? And also on how you keep the kids engaged because, obviously, it's a harder group to keep focused? So, any color around that would be great. Thank you.

Yi Wang -- Chairman of the Board of Directors and Chief Executive Officer

Hi, this is Yi again. Thank you for the question. Obviously, the kid's market is a very exciting and huge market for us. We are not the first player in the market, obviously, but we feel excited to be coming in with all the expertise that we have accumulated over the years in the AI English teacher approach that we have pioneered in the market.

Right now, there is only one course that users can buy within the free-to-download app, Kid's Liulishuo, which is a phonics course. It's a year-long course that teaches kids between the age 3-8 with all the basic concepts of phonics, and also, after completing the full-year course, the kid will master over 700 words and be able to have a solid foundation for pronunciation. So, right now, the course is priced at RMB998 for the whole year. That's the regular price. And right now, we have an introductory price of RMB9.9 for the first seven-day period for the users to get a taste. Obviously, we may adjust the price as needed, but that's right now the two price points that we can disclose.

And in terms of differentiators, it's very clear that our approach is different from a lot of the other players in the market because we don't offer in-person online tutoring service taught by a human teacher. We took this AI teacher approach, and we think it's gonna be benefiting a lot for the younger age groups and their parents in terms of flexibility, convenience, efficacy, efficiency, and affordability, so we are very excited about this new market opportunity.

Christine Cho -- Goldman Sachs -- Analyst

Great. Thank you so much.

Operator

As there are no further questions, I'd now like to turn the call back over to the company for closing remarks.

Chuhan Wang -- Head of Strategy and Growth, Investor Relations

Thank you once again for joining us. If you have further questions, please feel free to contact LAIX investor relations through the contact information provided on our website or TPG investor relations.

...

Operator

This concludes this conference call. You may now disconnect your line. Thank you.

Duration: 30 minutes

Call participants:

Chuhan Wang -- Head of Strategy and Growth, Investor Relations

Yi Wang -- Chairman of the Board of Directors and Chief Executive Officer

Bin Yu -- Chief Financial Officer

Zheren Ben Hu -- Director and Chief Technology Officer

Hui Lin -- Director and Chief Scientist

Timothy Zhao -- Goldman Sachs -- Analyst

Sheng Zhong -- Morgan Stanley -- Equity Analyst

Christine Cho -- Goldman Sachs -- Analyst

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