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Cheetah Mobile Inc. (NYSE:CMCM)
Q3 2019 Earnings Call
Nov 13, 2019, 8:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good day and welcome to the Cheetah Mobile Third Quarter 2019 Earnings Conference Call. [Operator Instructions].

I would now like to turn the conference over to Helen Zhu, Investor Relations Director of Cheetah Mobile. Please go ahead ma'am.

Helen Zhu -- Investor Relations Director

Thank you, operator. Welcome to Cheetah Mobile third quarter 2019 earnings conference call. With us today are our Chairman and CEO, Mr. Sheng Fu; and our CFO, Mr. Vincent Jiang. Following management's prepared remarks, we will conduct a Q&A session. Before we begin, I refer you to the Safe Harbor statements in our earnings release, which also applies to our conference call today as we will make forward-looking statements. At this time, I would now like to turn the conference call over to our Chairman and CEO, Mr Sheng Fu, please go ahead.

Sheng Fu -- Chairman of the Board and Chief Executive Officer

Thank you, Helen. Hello everyone. In the quarter, our utility product business continue to face headwinds due to an unfavorable macro environment in both overseas and the domestic markets. In overseas markets the recent global business environment had brought some difficulty to Chinese enterprise in the process of going abroad to deal [Phonetic]. We continue to face challenges that results from the misleading statements made by our third party last November.

We have not yet resumed business relations with the Facebook, despite an independent review of these misleading statements, our -- by outside [inaudible] and at the use of Facebook's pre-approved independent data auditing firm, AlixPartners. This audit -- this audit does does identify any information in consistent with our previous disclosure.

In the domestic market, we continue to see softer than expected ad demand due to macro headwinds. Additionally, handset makers have increasingly integrated mission-critical feature for cleaning security and battery management into their operating system. The impacts from our external operating environments on our business is more significant than we expected. We expect those headwinds to continue affecting our business in the short term.

In spite of these short term challenges, Cheetah Mobile remains fundamentally strong. In the third quarter of 2019, revenues from our mobile entertainment business grew by 7% year-over-year to RMB532 million and the revenues from our AI-related business grew by 88 year over year to RMB35 million. Despite the challenge of suspending revenue growth for our utility product business, we still earned almost RMB353 million in revenue and more than RMB24 million in operating profits from this business in the quarter. In the quarter, we continued to implement cost control measures for both our utility product business and our mobile entertainment business. During the quarter, our cost and expense for our utility products business and our mobile entertainment business were reduced by almost 12% year-over-year. In the Third quarter, we began to experiment with several new channels to acquire users and to monetize our traffic in the overseas market. While this deal take some time, we have already seen some encouraging results.

In addition, we began to introduce several new premium features within our existing utility products and the game for users to subscribe to. The initial results have being very encouraging. Our user subscription model diversified our revenue source, particularly in the overseas markets where we do not have the direct sales team for our ad business. The decline in operating profits in this quarter was largely attribute to our increase in environment for AI, which amounts to roughly RMB140 million in the quarter and the one-time non-cash asset impairment of about RMB50 million.

In the third quarter of 2019, we amended LiveMe's share incentive plan to give LiveMe's current management team more flexibility and incentive to run the business independently, increasing competitive market environments. As is the result, Cheetah Mobile will no longer hold its majority voting power in LiveMe and we will not consolidate LiveMe's financial from 4Q 2019. We are confident in LiveMe's management team and that believe they will lead the team to execute it's long-term growth strategy. Cheetah Mobile will in turn benefit from LiveMe's growth as a major shareholder. Besides, as LiveMe generates the majority of the loss.

For our mobile entertainment segment in the past, our margin for segments under the corporate level were, again, as [Indecipherable] left starting in the fourth quarter of 2019. Importantly, Cheetah Mobile has a very strong balance sheet. As of September 30, 2019, we had net cash of US$337 million, and the long-term equity investments of US$348 million which includes Bytedance, WiFi Master, Codemao, and other well-known assets in which we made early round investment. In the future, we will continue to use our cash to grow our business. At the same, we will look at capitalizing our product [Phonetic] investments and using these funds for business development and shareholders returns.

Overall, we remain confident that our utility product business and the mobile game business will resume their growth. As a result, we will continue to invest in our AI-related business to build long-term growth for Cheetah Mobile. Our AI-related business made substantial progress in the term of consumer adoption and the user engagement in the quarter. Our AI business is a joint effort with Beijing Orion Star.

Our service robots, which are powered by our preparatory voice and [Indecipherable] interactive knowledge that are now being used in many in place such as a shopping malls, museums, schools and subways. Our surveys robots cover more than 20 industries, surveys more than 800 enterprise customers and having attracted users to use more than 130 million times. In addition, daily voice carried [Phonetic] from our robots has recently surpassed 2 million. As more enterprise customers adopt service robots, we believe service robots will become the next traffic gateway in the post smartphone era.

As of today, we are already one of the largest service robots providers in China. And we are confident in both growing our market share and our ability to become a market leader in the coming quarter. In the third quarter, Beijing Orion Star signed a series B funding agreement with an outside investor. At the same time, Cheetah Mobile will also fully exercise its balance [Phonetic] in Beijing Orion Star. We expect the deal to close by the end of November. Post transaction, Cheetah Mobile, will remain a major shareholder of Beijing Orion Star. Importantly, this transaction will give us more flexibility in the execution of our AI strategy and it will take time for us to educate customers, build business models and generates material revenues from our AI business. However, we do believe we are on the right track.

And as the development of 5G technology we will speed up this progress and at the same time, our experience in developing tool-base consumer products, our knowledge of how the Internet works and our sophisticated voice and visual interactive technologies will enable us to capture the opportunities going forward.

With that, we'll now turn the call to our CFO, Vincent Jiang to go through the details of our third quarter financial results.

Vincent Jiang -- Chief Financial Officer

Thanks. Mr. Fu Sheng and hello everyone. I will now walk you through our financial results. Unless stated otherwise, all money amounts are in RMB and our gross comparisons are made on a year-over-year basis.

For the 3rd quarter, total revenues decreased by 32% to RMB920 million. Revenues from our mobile entertainment business increased by 7% to RMB532 million. Mobile game revenues increased by 4% to EUR297 million, driven by the boost in popularity of Bricks n Balls, which we launched in early 2018.

LiveMe Revenues increased by 11% to RMB235 million, primarily driven by higher average revenue per paying user. Revenues from utility products and related services decreased by 58% to RMB353 million in the third quarter of 2019, primarily due to the slowdown in our mobile utility business in overseas markets.

Headwinds in the domestic online advertising market also affected our mobile utility product business in China.

Moving to our cost expenses, to help facilitate the discussion of the Company's operating performance without the effect of non-cash share-based compensation expenses, the following discussion will be on a non-GAAP basis, which excludes stock-based compensation expenses. For financial information presented in accordance with US GAAP, please refer to our press release which is available on Cheetah Mobile's website at www.cmcm.com.

Cost of revenues decreased by 4% to RMB366 million in the third quarter of 2019 due to reduced cost associated with our utility product business which were partially offset by the increases in channel costs related to our mobile games business and other costs associated with our AI business.

Gross margin in the third quarter of 2019 decreased by 43% to RMB554 million and gross margin was 60% compared to 72% in the same period last year.

R&D expenses increased by 27% to RMB212 million in third quarter of 2019, primarily due to increased R&D personnel for our mobile games and AI-related business, offset by a decrease in the number of personnel for our utility products and related services. Selling and marketing expenses decreased by 30% to RMB397 million in the third quarter of 2019. This decrease was mainly due to reduced promotional activities for our utility products and related services business, which was partially offset by the increased marketing expenses for our mobile games business. G&A expenses increased by 78%, RMB167 million in the quarter which was primarily due to the one-time asset impairment charges, increases in employee benefits and other administrative expenses. Non-GAAP operating loss was RMB222 million for the third quarter of 2019 compared to a non-GAAP operating profit of RMB154 million in the same period last year.

Moving to each reporting segments. Operating profit for utility product and related services was RMB24 million in the quarter, a decrease from RMB264 million in the third quarter of last year, mainly due to decrease of revenues and a one-time increase in allowances for doubtful accounts as the Company periodically review its accounts receivable and other receivables. Operating loss for the mobile entertainment business was RMB142 million in the quarter, an increase from RMB74 million in the third quarter of last year, mainly due to increased amount of investment made into our mobile games business as we continue to launch new titles.

Operating loss for AI and other business was RMB103 million in the quarter, an increase from an operating loss of RMB36 million in the third quarter of last year, mainly due to additional amount of investments made into our AI-related business. LiveMe's amended its Share Incentive Plan on September 30, 2019. As a result, we no longer hold the majority voting power in LiveMe and we will deconsolidate LiveMe's financial results starting from the fourth quarter of 2019.

Now let me provide you with our fourth quarter revenue guidance. We currently expect total revenues for the fourth quarter to be between RMB610 million, and RMB650 million. This amount has reflected the fact that LiveMe's revenue will no longer be included in the Company's revenues. Please note this forecast reflects the Company's current and preliminary view and is subject to change. This concludes our prepared remarks.

Operator, we are now ready to take questions. Thank you.

Questions and Answers:

Operator

We will now begin the question-and-answer session. [Operator Instructions]. The first question comes from Hillman Chan of Citigroup. Please go ahead.

Hillman Chan -- Citigroup -- Analyst

[Foreign Speech] So, my first question is on fourth quarter guidance. Could management provide more granular color on the guidance for fourth quarter for the mobile entertainment, mobile games and utility products? And my second question is on the product roadmap for the AI products. Could management share more color related to that and how we should think about monetization and profitability for the AI products going forward? Thank you very much.

Vincent Jiang -- Chief Financial Officer

Hello, Hillman, this is Vincent. I will take the first question. Regarding the guidance for the fourth quarter, first of all, we want to point out that LiveMe's revenue is no longer included in the guidance. So, you can see a substantial decrease in amount compared to last quarter and previous quarters. And secondly, in terms of the utility products and mobile entertainment, which is now just games now, and current today we expect that both the utility products and games will have a slight decrease in the fourth quarter, which is mainly because for the utility products we still see the soft reaction in our advertisers and the softness for our utility products.

And for the game business, we do have a large pipeline and we are promoting new games in various channels, since those new games hasn't really pick up the momentum yet. So the fourth quarter will be relatively soft, but we do hope that by next year we will see significant increase in the mobile games business.

Sheng Fu -- Chairman of the Board and Chief Executive Officer

[Foreign Speech]

Vincent Jiang -- Chief Financial Officer

Okay. Let me interpret now. So our Q4 guidance is a quite conservative from our point of view. For example, as I just mentioned, the -- we do have our new games in the pipeline. We are promoting those games, but we haven't account considerable amount of revenues contribution from those new games. That has been reflected in our guidance. And also, we are taking a conservative stance because in our earlier call, we mentioned that the overseas revenues and overseas business partners still haven't resumed the business relationship with us and the impact that has a cost is actually much more significant than we originally expected. That's why we are, again, we are trying to be more conservative in our guidance.

Hillman Chan -- Citigroup -- Analyst

[Foreign Speech]

Vincent Jiang -- Chief Financial Officer

Okay. There are two aspects of the AI business. First of all, in terms of the Cheetah Mobile GreetBot, which is a product we have been selling to business and enterprise. And this is a relatively -- it's a relatively longer-term process, because you are -- we're not selling to the consumers. We have to sell into enterprises and the decision processes is longer than the -- selling to the consumers.

We do have seen some transactions in which the enterprise has been coming back to us. We have seen recurring orders from those enterprise. And we hope that by next year we will see a more meaningful increase in this part of sales for the -- for our robotic products. For the second part, we have been experimenting and exploring a new business model, which we have been placing thousands of robots in larger shopping malls and those robots will provide some kind of inquiry to the customers in those shopping malls.

And those shopping malls all have a large foot traffic and we are trying to experiment new advertising model through which to monetize the ad inventory through the large traffic [Indecipherable] the larger the traffic.

Sheng Fu -- Chairman of the Board and Chief Executive Officer

[Foreign Speech]

Vincent Jiang -- Chief Financial Officer

Okay. So the AI technology actually involve many different aspects of technologies and upstream, downstream, it's a long value chain. In terms of making AI products and providing related Internet services and providing the [Indecipherable] experience that an enterprise customer would want is actually a very challenging job. And for us, we have been able to -- we do have a long -- along the value chain, we do have our full suite of technologies. So in terms of the customer experience, our enterprise customers, we do believe that we are in a leading position in the industry.

Sheng Fu -- Chairman of the Board and Chief Executive Officer

[Foreign Speech]

Vincent Jiang -- Chief Financial Officer

Okay. Yes.

Hillman Chan -- Citigroup -- Analyst

Thank you.

Operator

Thank you. The next question comes from Thomas Chong of Jefferies. Please go ahead.

Unidentified Participant

[Foreign Speech] Hi management, this is [Indecipherable] asking on behalf of Thomas, and thank you for taking my questions. I have two questions. Could management provide some colors on utilities and entertainment 2020 outlook, and any color on revenue contribution of AI initiatives in 2020? That would be helpful. Thank you very much.

Sheng Fu -- Chairman of the Board and Chief Executive Officer

[Foreign Speech]

Vincent Jiang -- Chief Financial Officer

Okay. In some of the utility products, honestly the challenges we are facing in this quarter is beyond our expectation. And as we said earlier, the user acquisition channels in overseas markets and in the domestic market, all -- we're all facing some issues in those channels. And the -- but we still think that next year we do have a growth potential here because we are rolling out new products and we're exploring new channels. For example, in our PC business, which is our kind of traditional business and many people think that there would be continued decline in PC-related business, but what we have seen today is that that part of business has been stabilized. And I also want to add a point that for example for our PC business, with the new -- one of the new product we provided is actually the previous premium model, which is the user will subscribe for membership fees, and in return, they will have all the services provided by our products and without having to bother with ads. And this is kind of a reverse of the recent years' trend in Internet, especially in mobile internet companies because previously all the utility products and also on the safety-related products was a paid model. And then, of course, when the industry evolves, that model has been overthrown and replaced by the total free model supported by advertising industry and advertising budgets.

But now we tried back to the previous model using the user subscription model and we found that actually, with the current generation of users, that model is very receptive to our users. So that's just one example.

And now let me go back to interpretation about the second part of Mr. Fu Sheng's second part of our answer, which is about the AI business. And for that we are very confident about -- because as we mentioned earlier, our product is very competitive. When we -- comparing the other player in this industry. And if you think about the macro environment, we can see a lot of customers and our business partners coming to us, order custom-made products to sell to their users.

Okay. Thank you.

Operator

The next question comes from Robert Cowell of 86 Research. Please go ahead.

Robert Cowell -- 86 Research -- Analyst

[Foreign Speech] My question is about the warrants. After exercising the warrants, what is our shareholding percentage going to be in Beijing OrionStar. And then also in our cooperation with Beijing OrionStar, how do we split up the work? What areas are Cheetah investing in? And what areas does Beijing OrionStar invest? Thank you.

Vincent Jiang -- Chief Financial Officer

Hello, Robert. I'll take the first question. After the exercise of the warrants and also with the new round of series B financing, Cheetah Mobile will still have -- still be the largest shareholder of OrionStar, but it will no longer be the -- well, it will not be the controlling shareholder of OrionStar, just mainly because of the dilution by the new investments. But it will remain the largest one. [Foreign Speech]

Sheng Fu -- Chairman of the Board and Chief Executive Officer

[Foreign Speech]

Vincent Jiang -- Chief Financial Officer

Okay. The relationship between Cheetah Mobile and OrionStar is as follows. First of all, for some of the products, such as Cheetah GreetBot, Cheetah Mobile is the exclusive distributor for OrionStar so that will sell the product to its customers mainly to the business customers, and there will be some profit sharing arrangements between the two companies. And for the other part, OrionStar will provide the hardware and the basic -- or the lower level AI capabilities and Cheetah Mobile will develop the high-level applications and also will be responsible for the implementation and deployments in the actual usage scenario. So it's kind of like Cheetah Mobile is developing mobile apps for Android-operated phones. Okay. Yeah.

Operator

[Operator Instructions] This concludes our question-and-answer session. I would like to turn the conference back over to Helen Zhu for any closing remarks.

Helen Zhu -- Investor Relations Director

Thank you all for joining us today. If you have any further questions please, do not hesitate to contact us. Thank you so much. Bye.

Operator

[Operator Closing Remarks]

Duration: 39 minutes

Call participants:

Helen Zhu -- Investor Relations Director

Sheng Fu -- Chairman of the Board and Chief Executive Officer

Vincent Jiang -- Chief Financial Officer

Hillman Chan -- Citigroup -- Analyst

Unidentified Participant

Robert Cowell -- 86 Research -- Analyst

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