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Changyou.com Limited (NASDAQ:CYOU)
Q4 2019 Earnings Call
Mar 9, 2020, 6:30 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Ladies and gentlemen, thank you for standing by and good evening. Welcome to Changyou's Fourth Quarter and Fiscal Year 2019 Earnings Conference Call. [Operator Instructions]

I would now like to turn the conference over to your host for today's call, Changyou's IR Head, Mr. Zhao Yujia. Please go ahead, Yujia.

Yujia Zhao -- Investor Relations

Thank you, operator, and thanks for everyone for joining us.

On the call today are Mr. Chen Dewen, CEO; Mr. Hong Xiaojian, COO; Mr. Wang Yaobin, CFO; and Mr. Wei Qing, Chief Games Development Officer. For today's agenda, management will discuss highlights for the fourth quarter and fiscal year 2019. This will be followed by a question-and-answer session.

Before we continue, please allow me to read you Changyou's Safe Harbor statements. Statements that are not historical facts, including statements about the Company's beliefs and expectations are forward-looking statements. These statements are based on our current plans, estimates and projections, and therefore you should not place undue reliance on them. Forward-looking statements involve inherent risks and uncertainties. We caution you that a number of important factors could cause actual results to differ materially from those contained in any forward-looking statements. For more information about the potential risks and uncertainties, please refer to the Company's filings with the SEC, including its most recent Annual Report on Form 20-F.

I will now turn the call over to our CEO, Mr. Chen Dewen.

Dewen Chen -- Chief Executive Officer

[Foreign Speech]

In 2019, we took a number of steps to enhance our capacity to create new, high quality games. Focusing on our goal of developing top games, we prioritized R&D for mobile games development, including reorganization of roles and responsibilities to improve the R&D process and strengthen teamwork. We also worked hard on our existing game portfolio by introducing new game content and implementing a variety of operational models.

As a result of these measures, our results were satisfactory in terms of player engagement, player retention and revenues for the year. For the full year 2019, our total revenue was $455 million. Non-GAAP net income was $179 million.

[Foreign Speech]

For the fourth quarter of 2019, our total revenue was $135 million. Online game performed well, with revenue reaching $132 million. Our non-GAAP net income for the fourth quarter was $63 million, in line with our updated guidance.

[Foreign Speech]

For PC games, the new expansion pack for TLBB PC launched toward the end of fourth quarter performed well. The new clans introduced in the pack had a higher acceptance rate with players. In addition, in October, we rolled out our first [Indecipherable] carnival event for players. We were happy to see that metrics for player engagement and willingness to pay were both very stable in the fourth quarter. TLBB PC revenue rose slightly on a sequential basis, which was better than we expected.

[Foreign Speech]

In the first quarter of 2020, we will launch a new expansion pack, introducing online events especially designed for the Spring Festival and Lantern Festival. Meanwhile, we will also launch 2020's first promotional event which ranks and rewards our highest playing users in order to stabilize player retention during the holidays. We expect a rising TLBB PC revenue in the first quarter of 2020 on a sequential basis.

[Foreign Speech]

For mobile games, revenue in the fourth quarter of 2019 from Legacy TLBB Mobile increased significantly on a sequential basis better than we expected. This was mainly thanks to new content that we introduced and promotional events that we launched during the fourth quarter. Mr. Wei Qing, our Chief Games Development Officer, will give you an update later on latest progress with this game.

[Foreign Speech]

TLBB Honor, which was launched in the third quarter of 2019, saw a relatively stable revenue in the fourth quarter. However, because of its relatively narrow content and high cost of promotions, it has not yet generated material profits for the Company.

[Foreign Speech]

Looking ahead, we will continue to execute our core strategy of Top Games, and our strategic focus will continue to be on MMORPG mobile games. We will also seek to make breakthroughs in developing casual games and strategy games. We intend to put more effort into the international market for games. We believe our patience and hard work will, in the end, be productive, and we look forward to bringing more quality game products and better game experience to players around the world as well as in China.

[Foreign Speech]

With that, let me turn the call over to Mr. Wei Qing, our Chief Games Development Officer, to give you an update on the latest progress of Legacy TLBB mobile.

Qing Wei -- Chief Games Development Officer

[Foreign Speech]

During the fourth quarter of 2019, as scheduled, we introduced casual gameplay for Legacy TLBB Mobile, featuring elements [Indecipherable] day-to-day life. In addition, we made a preliminary adjustment of the skill system of all clans and introduced a new PVP game play [Phonetic] which shows more fairness to lower paying players. The combination of one new plan and some promotional event launched during the quarter has led to improvements in player engagement and willingness to pay.

[Foreign Speech]

During the first quarter of 2020, we will launch a new expansion pack with another new clan as well as targeted holiday events to stabilize player engagement. Based on our long-term operational strategy, we will reduce in-game promotional events during the first quarter of 2020. We expect the Legacy TLBB Mobile's revenue in the first quarter of 2020 to drop on a sequential basis, particularly since its revenue in the fourth quarter of 2019 performed well due to heavier in-game promotions.

[Foreign Speech]

Now let me turn the call over to our CFO, Mr. Wang Yaobin, to discuss the financial highlights.

Yaobin Wang -- Chief Financial Officer

[Foreign Speech]

Before I walk you through our financial highlights for the fourth quarter, I would like to remind you that as the Company's cinema advertising business ceased operations during the third quarter of 2019, its results of operations have been excluded from the Company's results from continuing operations in the condensed consolidated statements of operations and are presented in separate line item as discontinued operations. Retrospective adjustments to the historical statements have been made in order to provide a consistent basis of comparison. Unless indicated otherwise, results presented here are related to continuing operations only and exclude results from the cinema advertising business.

[Foreign Speech]

Now let me walk you through our financial highlights for the fourth quarter.

[Foreign Speech]

Total revenue was $135 million, an increase of 35% year-over-year and 22% quarter-over-quarter, in line with our updated guidance.

[Foreign Speech]

Online game revenue was $132 million, an increase of 40% year-over-year and 22% quarter-over-quarter, in line with our updated guidance. The year-over-year and quarter-over-quarter increases were mainly due to the contribution of TLBB Honor as well as the improved performance of some of the Company's older games, including TLBB PC and Legacy TLBB Mobile.

[Foreign Speech]

Online advertising revenue was $3 million, a decrease of 17% year-over-year and an increase of 23% quarter-over-quarter. The year-over-year decrease was mainly due to fewer PC and mobile games being marketed on the 17173 website. The quarter-over-quarter increase was mainly due to more web games being marketed on the 17173.com website.

[Foreign Speech]

Now let me provide some more details about other financials. From now on, most of the figures discussed will be on a non-GAAP basis. As a reminder, you can find a reconciliation of these non-GAAP measures in our published earnings release.

[Foreign Speech]

Gross margin was 75% compared with 83% in the fourth quarter of 2018 and 78% in the third quarter of 2019.

[Foreign Speech]

Gross margin of the online games business was 75% compared with 85% in the fourth quarter of 2018 and 78% in the third quarter of 2019.

[Foreign Speech]

Operating profit was $50 million compared with an operating profit of $21 million in the fourth quarter of 2018 and $35 million in the third quarter of 2019.

[Foreign Speech]

Net income from continuing operations attributable to Changyou.com Limited was $63 million compared with net income of $23 million in the fourth quarter of 2018 and net income of $34 million in the third quarter of 2019.

[Foreign Speech]

Fully diluted net income from continuing operations attributable to Changyou.com Limited per ADS was $1.11 compared with net income of $0.44 in the fourth quarter of 2018 and net income of $0.64 in the third quarter of 2019.

[Foreign Speech]

Next, moving on to the balance sheet and cash flow statement.

[Foreign Speech]

As of December 31, 2019, we had net cash of $306 million compared with $671 million as of December 31, 2018. The decrease was mainly due to the distribution of a special cash dividend of about $503 million in the second quarter of 2019.

[Foreign Speech]

For the fourth quarter, we had net operating cash inflow of $52 million.

[Foreign Speech]

Now let me walk you through our 2019 full year financials very briefly.

[Foreign Speech]

Total revenue was $455 million, representing an increase of 10% year-over-year.

[Foreign Speech]

Gross margin was 79%, which compares with 83% in 2018.

[Foreign Speech]

Operating profit was $169 million compared with $138 million in 2018.

[Foreign Speech]

Net income from continuing operations attributable to Changyou.com Limited was $179 million compared with $123 million in 2018.

[Foreign Speech]

Fully diluted net income from continuing operations attributable to Changyou.com Limited per ADS was $3.31 compared with $2.29 in 2018.

[Foreign Speech]

Finally, for first quarter 2020 guidance, we expect --

[Foreign Speech]

Total revenue to be between $123 million and $133 million. This implies a sequential decrease of 9% to 2%.

[Foreign Speech]

Within total revenue, online game revenue to be between $120 million and $130 million. This implies a sequential decrease of 9% to 1%.

[Foreign Speech]

Non-GAAP net income attributable to Changyou.com Limited to be between $39 million and $44 million.

[Foreign Speech]

Non-GAAP fully diluted net income attributable to Changyou.com Limited per ADS to be between $0.69 and $0.78.

[Foreign Speech]

Share-based compensation expense to be around $3 million, assuming no new grants of share based awards.

[Foreign Speech]

In our guidance we have adopted a presumed exchange rate RMB7 to $1 as compared with the actual exchange rate of about RMB7.03 to $1 for the fourth quarter of 2019.

[Foreign Speech]

Like last quarter, we won't take questions regarding the going-private proposal in the Q&A session for this call.

[Foreign Speech]

This concludes our prepared remarks. Thank you.

Operator, before we begin, at this time we'll have a brief reminder to the analysts waiting in the queue. For those who can speak Chinese, please kindly ask questions in Chinese first, then followed by an English translation. Thank you. Operator, we would like to open the call to questions now.

Questions and Answers:

Operator

[Operator Instructions] Your first question comes from Thomas Chong from Jefferies. Please ask your question.

Thomas Chong -- Jefferies -- Analyst

[Foreign Speech]

Thanks, management, for taking my questions and wish you safe and good health. My question is about coronavirus. Can management share about user and time spent in PC and mobile in the past few months? In particular, we also hear that Internet cafes are being shut down because of the virus. Just want to see about the impact of virus to our PC and mobile games.

And my second question is about the overseas gaming strategy. We have talked about investments in more resources in overseas expansion. Just want to get a sense about which countries are we more interested penetrating into and what kind of games are we expected to invest more resources? Thank you.

Dewen Chen -- Chief Executive Officer

[Foreign Speech]

The coronavirus did have some impact for us. There is a positive ones and there're also negative ones.

[Foreign Speech]

For good ones, because people are more staying at home or working from home, so we saw some metrics like time spent in game and also active users number increase in the first quarter.

[Foreign Speech]

So in the first quarter, we believe that PC game revenue will be up.

[Foreign Speech]

By government regulations, we're only allowed to have 50% of employees to work from the Company. So we still have arranged a lot of employees to work from home.

[Foreign Speech]

The Legacy TLBB Mobile, for example -- in the past, typically, we had one expansion pack per month or more than one month. But now we have some delays on expense packs -- new expansion pack updates.

[Foreign Speech]

As we mentioned that, in the fourth quarter we had heavier promotions and in the first quarter of 2020 we will reduce that promotional events. So we believe for Legacy TLBB Mobile, the revenue will go down in the first quarter.

[Foreign Speech]

In 2018, we started overseas, launching business in South Korea firstly, and we launched [Indecipherable].

[Foreign Speech]

This year, we plan to launch more games in South Korea market.

[Foreign Speech]

Later this year, we will test waters [Phonetic] in European and American markets.

[Foreign Speech]

Thank you so much.

Thomas Chong -- Jefferies -- Analyst

Thank you.

Operator

Your next question comes from Eddie Leung from Bank of America. Please ask your question.

Eddie Leung -- Bank of America Merrill Lynch -- Analyst

[Foreign Speech]

So my question is about new entrant. We have seen some leading short video platforms enter in game development. So just wondering if there has been any impact on the retention rate as far as the compensation for the game development staff. Thank you.

Dewen Chen -- Chief Executive Officer

[Foreign Speech]

Yes, we saw that some former video company enter into the game industry. But it depends on different companies.

[Foreign Speech]

Now, the Company's strategic focus will be more on super-casual games.

[Foreign Speech]

So, from the very beginning, I believe that it will impact more over to those casual game developers rather than us, the hardcore MMO players.

[Foreign Speech]

Yes, we have been working on MMORPG, hardcore RPG games. So we don't think there will be obvious impact to us.

[Foreign Speech]

From longer-term perspective, we believe that the new entrant will also go for MMORPG market.

[Foreign Speech]

But we also believe that it won't impact us so much because we have rich experience in this area, and also, the MMORPG market is a big enough it allows many players to compete.

[Foreign Speech]

Thank you.

Operator

Your next question comes from Nelson Cheung from Citigroup. Please ask your questions.

Fuk Lung Cheung -- Citigroup -- Analyst

[Foreign Speech]

Let me translate my questions into English. The first question is about the new games. Can management provide an update on the timing of the major new game announcements in 2020? And my second question is about the mobile, PC game mix. Can management share the split of '19 revenue of reported and gross billing basis? Thank you very much.

Dewen Chen -- Chief Executive Officer

[Foreign Speech]

We have several MMORPG under development, and we plan to launch them second half this year or first half next year.

[Foreign Speech]

The first one MMO will be CMC [Phonetic] Mobile.

[Foreign Speech]

The testing results show great potential to improve. So we're still improving the game quality right now.

[Foreign Speech]

In the second quarter or midyear, we plan to launch a casual game called Patrice [Phonetic].

[Foreign Speech]

We have another licensed game called Dynasty Warriors, and due to the problem of license approval, we're planning that. So we plan to launch it in the third quarter.

[Foreign Speech]

For overseas markets, we have [Indecipherable] other two titles to be launched in South Korea market. But due to the coronavirus situation, it really depends. We are waiting for the right timing.

[Foreign Speech]

In terms of revenue, the split is mobile game accounts for 48% and PC game accounts for 52%.

[Foreign Speech]

In terms of cash receipts, PC game accounts for 36% and mobile game accounts for 64%.

Fuk Lung Cheung -- Citigroup -- Analyst

[Foreign Speech]

Thank you and appreciate it.

Operator

Your next question comes from Alex Poon from Morgan Stanley. Please ask your question.

Alex Poon -- Morgan Stanley -- Analyst

[Foreign Speech]

I'll translate my question. My first question is regarding organic growth. Legacy TLBB has seen very strong growth in 2019. Can this double-digit growth rates be maintained in coming years? And second question is about cost control. In the last two, three years, opex ratio has been coming down and operating margin has reached 37% in Q4. How should we see the coming years? Thank you.

Dewen Chen -- Chief Executive Officer

[Foreign Speech]

Currently speaking, we believe for the stable performance from older games. There are several aspects.

[Foreign Speech]

First of all, we still believe the new gamer for PC game or [Indecipherable] is declining. And secondly, we believe that for players with more than five years' experience is increasing. And thirdly, the new competitor for new games -- new quality games in the market is less than before.

[Foreign Speech]

So from our point of view, we believe this quarter-over-quarter increase was not sustainable. And in the future, as there will be new quality games launched into the market, we believe it will attract some of the players.

[Foreign Speech]

Over the years, actually, we have been optimizing our cost structure for supporting department. We have been investing continuously in R&D process and we have been working hard to control costs under other aspects.

[Foreign Speech]

Secondly, actually we are shutting down some subsidiaries with losses over the past year.

[Foreign Speech]

It's difficult to predict the future cost trend because, one, is due to our revenue structure. For PC games, its cost is quite stable, fixed. And for games to be launched in the future, it depends on the proportion of PC game and mobile games.

[Foreign Speech]

Thank you.

Operator

Your next question comes from Ribery Gu from Credit Suisse. Please ask your question.

Ribery Gu -- Credit Suisse -- Analyst

[Foreign Speech]

I have a little follow-up question on the Internet cafe closure due to the coronavirus outbreak. So, could management explain or remind us of the internet cafe contribution -- revenue contribution and the growth [Phonetic] contribution for the PC game revenue growth [Phonetic]. Secondly, regarding the TLBB Mobile, could the management explain to us the current plan for the major update for this year? Thank you.

Dewen Chen -- Chief Executive Officer

[Foreign Speech]

From the data we can collect, players play [Indecipherable] related games in net cafe.

[Foreign Speech]

So, currently personal computer is not very difficult to obtain in China. So we believe that our players play at home. That is difficult to calculate it.

[Foreign Speech]

What we saw is the number of active players increase during the coronavirus impact.

[Foreign Speech]

From Legacy TLBB Mobile, typically, we launch expansion packs within one to two months. And now, we are working hard to minimize the impact caused by coronavirus.

[Foreign Speech]

The current assessment will be picking pace by half a month delay.

[Foreign Speech]

From PC games, because we are not launching many expansion packs more frequently, so it's controllable.

[Foreign Speech]

Thank you.

Operator

Thank you. [Operator Instructions] As there are no further questions, we will now begin closing comments. Please go ahead, Yujia.

Yujia Zhao -- Investor Relations

Once again, I would like to thank you for joining today's call. If you have any follow-up questions, please don't hesitate to contact us. Thank you.

Duration: 47 minutes

Call participants:

Yujia Zhao -- Investor Relations

Dewen Chen -- Chief Executive Officer

Qing Wei -- Chief Games Development Officer

Yaobin Wang -- Chief Financial Officer

Thomas Chong -- Jefferies -- Analyst

Eddie Leung -- Bank of America Merrill Lynch -- Analyst

Fuk Lung Cheung -- Citigroup -- Analyst

Alex Poon -- Morgan Stanley -- Analyst

Ribery Gu -- Credit Suisse -- Analyst

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