Waterdrop Inc. (WDH) Q3 2021 Earnings Call Transcript

Waterdrop Inc. (WDH)
Q3 2021 Earnings Call
Nov 30, 2021, 7:00 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good morning, ladies and gentlemen, and thank you for standing by for Waterdrop Inc.'s third quarter 2021 earnings conference call. [Operator instructions] I would now like to hand the conference over to your host for today's call, Ms. Cui. Please go ahead.

Xiaojiao Cui -- Investor Relations

Thank you, operator. Hello, everyone. Thank you for joining Waterdrop's third quarter 2021 earnings conference call. Please note that the discussion today will contain forward-looking statements made under the safe harbor provision of the U.S.

Private Securities and the Litigation Reform Act of 1995. Forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from our current expectations. Potential risks and uncertainties include, but are not limited to, those outlining our public findings with the SEC. The company does not undertake any obligation to update any forward-looking statements except as required under applicable law.

Also, this call includes a discussion of certain non-GAAP measures. Please refer to our earnings release for a reconciliation between non-GAAP and GAAP. Joining us today on the call are Mr. Shen Peng, our founder, chairman, and CEO; Mr.

Yang Guang, co-founder, director, and the general manager of insurance marketplace; Mr. Hu Yao, co-founder, director, and the general manager of medical crowdfunding and healthcare; and Mr. Kevin Shi, our CFO. We will be available for a Q&A session after the remarks.

Now, I would like to turn the call over to our CEO, Mr. Shen Peng. Please go ahead.

Shen Peng -- Founder, Chairman, and Chief Executive Officer

[Foreign language]

Xiaojiao Cui -- Investor Relations

Hello, everyone. Thank you for joining our quarterly earnings conference call. This is the beginning of the third quarter. The capital markets have experienced increasing volatility, and the growth of the insurance industry has softened.

The opportunities and challenges faced by our company were also quite different from those prior to our IPO. Notwithstanding this, we continue to strive to be a customer-centric company that focuses on the development of our business and creating sustainable shareholder value.

Shen Peng -- Founder, Chairman, and Chief Executive Officer

[Foreign language]

Xiaojiao Cui -- Investor Relations

In our last earnings release, we announced a one-year share repurchase plan. During the third quarter, we have pragmatically commenced the plan under the relevant compliance framework. Since September 8th, the announcement date of the repurchase plan to the end of the third quarter, we have repurchased a total of nearly 500,000 ADS, and we will continue to implement as deemed appropriate. We plan to use these repurchase ADS for our share incentive plans in the future.

Shen Peng -- Founder, Chairman, and Chief Executive Officer

[Foreign language]

Xiaojiao Cui -- Investor Relations

In addition, before IPO, our core management team of more than 30 executives, including myself, have already voluntarily undertaken not to sell or devote shares or options of Waterdrop in another at least 18 months since the expiry of our IPO lockup in this November, continuing to strengthen strategic sustainability and keeping focused on business development. This was based on our united confidence in the company's prospects and our support for a long-term sustainable development. It also demonstrates how our long-term commitment to safeguarding the interests of our investors. Despite the entire industry having encountered the various challenges throughout the past few months, we set an optimal time for us to enhance our fundamental operations.

We collectively and firmly believe in the long-term positive trends in the Chinese healthcare market and a better future for Waterdrop. We have confidence in the future and remain patient in the present.

Shen Peng -- Founder, Chairman, and Chief Executive Officer

[Foreign language]

Xiaojiao Cui -- Investor Relations

Since the beginning of the year, several new regulatory guidelines and industry policies were aiming to promote a healthy development and the consolidation of the industry in the long term. As a listed company, Waterdrop has proactively responded to new regulatory guidance and have maintained good communications with the regulators. We also took the initiative to pivot our business model to ensure that we are in compliance with the new rules. This round of ratification on the online insurance bills does not only amend the problems from the past to comply with the new guidelines but also provide a clearer direction to the future developments of the industry.

Waterdrop is actively cooperating with regulators and engaging in self-inspections and ratifications. Going forward, we will continue to proactively promote the healthy development of the industry.

Shen Peng -- Founder, Chairman, and Chief Executive Officer

[Foreign language]

Xiaojiao Cui -- Investor Relations

Waterdrop is uniquely positioned to provide inclusive insurance, which is in line with the regulatory guidance. At the same time, we have established a solid business infrastructure through our product development capabilities, technological innovations, and unique synergies among our business segments. This helps us demonstrate our resilience and stability during this transitionary period in the industry, especially at present, along with the unstable situation of the pandemic. It is believed that the demand for insurance protection will continue to rise in near future and then people will be more inclined to turn to online channels, which implies an opportunity to online players like us.

Despite facing short-term challenges, we are committed to strengthening our cost control and optimizing profitability, ensuring that we are on the right track to a quality development in the years ahead.

Shen Peng -- Founder, Chairman, and Chief Executive Officer

[Foreign language]

Xiaojiao Cui -- Investor Relations

I'll pass to Yang Guang to discuss the development of the Waterdrop insurance business.

Yang Guang -- Co-Founder, Director, and General Manager of Insurance Marketplace

The main theme of this quarter is the transformation and upgrade of our online user acquisition model so as to better comply with the new regulatory guidance and evolving industry trends. Since the beginning of this year, the growth of the insurance industry has also entered into an adjustment period. According to the stats from CBIRC, the gross written premium of the health insurance sector only increased by 5% year over year in the first three quarters of this year, while the growth rate was minus 3% year over year for Q3. And the net profit of major listed insurance companies declined by about 36% year over year on average during the third quarter.

Our growth has also been affected under this operating environment. However, we are still outperforming the industry. Our FYPs for the first three quarters increased by 37.5% year over year to RMB 14.46 billion, exceeding the total FYPs for the whole year of last year. And despite the negative growth of the industry in Q3, our FYP during the quarter remained flat and positive growth.

We also significantly improved our cost efficiency with the net loss in Q3 narrowed by 27.3% on a quarter-over-quarter basis. Over the past two years, products of monthly pay with first-month low-premium has stimulated strong market demand, driving a rapid expansion in new users across the online insurance sector. However, since the beginning of this year, along with the reduction in the reaching out efficiency of this model, the benefits of online traffic brought by this model have gradually faded. This was directly manifested by the decline in both the new user conversion rate and retention rate.

In addition, the increased customer acquisition costs brought about by intensified competition has also gradually weakened the competitiveness of this model. Meanwhile, in order to ensure the industry's healthy development, regulators specially made a reminder for consumer complaints potentially brought by the first-month low-premium model, discouraging prominent promotion of these products via online insurance platforms. And rather, the regulators advocated insurance companies to leverage their product innovation and technology innovations to enhance insurance protection for the public from the supply side and service side. So, in order to align with the guidance and to comply with the new regulatory requirements and the evolving industry trends, we have taken the lead to upgrade and optimize the online customer acquisition model since the third quarter.

We hope to promote an enhancement in the short-term insurance marketing model of the entire industry and further improve our user economics, thereby achieving a healthier and most sustainable development. So, after we eliminate the first-month discount since the end of August and switch the focus of our online user acquisition channels from third-party sources back to internal channels, our quality indicators have improved significantly. The monthly take rate of our short-term insurance products increased by 5% from July to September. The recovery in take rates was mainly driven by the significant improvement in retention rate.

In the third quarter, the LTV of new customers have also improved on a sequential basis, with the LTV for September increased by about 75% month on month, resulting a significant improvement in ROI, or return on investment. In the meantime, we continued to increase our investment in new technologies and leverage technology to improve our retention and sales force productivities. Based on our data platform, voice platform, and NLP platform, we have explored building a large-scale semantic search engine. And we also have applied the manual-plus-machine labeling and feudal reinforcement learning, FRL technology, to enhance data collection and strategic machine learning capabilities to build an intelligent outbound calling system for the insurance retention and renewal.

We continued to synergize information from our CRM system, outbound calling system, voice platform, and dialogue robots to set up different script templates for different types of consumers so we can fully get users' intentions and provide customized product solution. Our system supports various functions, such as automated reporting, call recording, and intelligent statistical analysis, and provides suitable outbound calling strategy and script considering different operation scenario. This helps improve our customer renewal efficiency, reduce the workload of data reporting, provide tailor-made solutions to reach out to customers and further improve our customer retention. And benefiting from the optimization of this technology, the renewal rate in the third quarter improved by more than 20% compared to the same period last year.

And our business resilience is certified on top of our large customer base, especially during the slowdown in the industry. Compared to the initial rapid growth stage of our company, we are now placing more emphasis on existing customers and the service quality enhancement. We provide comprehensive insurance protection plans that cover vertically the life cycle of our users and horizontally their family members by analyzing our user profiles and lifecycle. We empower our online service team with Enterprise WeChat to provide users with flexible, dynamic, and comprehensive protection solutions, thereby maximizing the LTV of users.

In terms of the repeat purchase, critical illness policies contribute more in the third quarter. In Q3, the number of short-term CI repeat purchase policies within 35 days increased more than 30% over Q2. Our monthly repurchase rate increased significantly month over month, with the 35-day repurchase rate stood at around 33% in the third quarter. Our three-year repurchase rate and renewal rate for customer group in the third quarter increased further by 10% compared to Q2.

The share of long-term insurance in our total LTV per user reached 40% in Q3, up by 15% over Q2. And in Q3, the premiums per customer continued to increase, driven by our effective management of existing customers and the increase in repurchase. The number of policies per customer increased by 10% quarter by quarter. At the same time, our efforts in private domain traffic are starting to deliver results, with a 130% increase in the number of Enterprise WeChat contacts in Q3 compared to Q2 and a 70% quarter-over-quarter increase in conversion.

Moreover, we continued to make further progress with our offline brokerage business. As we brought in more industry veteran to our management team, we have gained a deeper foothold in offline brokerage business. We created new general rules for our brokerage team and adopted an innovative organizational structure, which is totally different from the traditional pyramid structure in the insurance industry. We also empowered our brokerage team with professionalism and digitalization through our systems, including the digital operation system, product system, training system, and marketing system.

Full event of the digital operating system helps our brokers with customer segmentation, digitalizing the customer engagement process, and improving the refinement and effectiveness of marketing management. And since the beginning of this year, we have already explored and launched our SaaS solution to allow insurance companies to leverage our capabilities in underwriting reviews, insurance claims, user operations, risk management, product customization, and actuarial pricing. Compared with the traditional brokerage model, those in-depth system integrations enable us to have a closer collaboration with our insurance company partners in system establishment so as to engage in insurance industry chain more deeply. It also allows us to manage our resources more effectively to better serve insurance companies while simultaneously gaining more first-hand user knowledge and business insight.

At the same time, our role in assisting insurance companies with claim decisions also enable us to improve our risk identification capabilities and accumulate related data. Going forward, our technology export will also be aligned with the evolving value-added needs from insurance companies. Here, let me give you an example on the user operation service we provide to our insurance company partners. This service leverage our online customer management capabilities, our core insurance system and SaaS-based CRM system to help insurance companies analyze the needs of their existing customers in various scenarios.

Insurance companies can adopt Waterdrop's CRM system to either co-develop the user resource from Waterdrop platform, or manage their existing consumers by leveraging our online operation mechanisms. Our service enable the insurance company to realize a higher LTV for their existing customer while helping us enrich our customer acquisition scenarios and further penetrate into existing users of the insurance market. Above is the update on the insurance business. And let me hand over to Mr.

Hu Yao for the update of our technology, medical crowdfunding, and healthcare business.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

In the next session, I will update our progress of R&D and technology innovation, medical crowdfunding, and healthcare business.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

In terms of technology innovation, adhering to our user-centric principle, we at Waterdrop aspire to bring insurance and healthcare service to billions through technology. We leverage our technologies to improve the efficiencies of key business processes, such as online marketing, telemarketing, insurance underwriting, policy renewal, and claims settlement, thereby resolving the key business pain points and improving our service efficiencies.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

We have developed an AI-powered matching tool between the sales team and users. Under our traditional online marketing and the telemarketing business model, service staff essentially reach out to users on a random basis. However, leveraged by AI analysis plus considering LP's historical service data and the user group they are good at serving. We can match the most appropriate staff to provide services for each user.

This substantially improves our user satisfaction and enhances the efficiency of our entire service system.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

Following the system development in Q2, we conducted some pilot tests on the AI-powered matching tool for our sales team and users this quarter. During this pilot test, we leverage cutting-edge algorithms to constantly improve our intelligent matching logic through more than 30 rounds iterations. We also established a more intelligent matching system by combining the traditional GBDT machine learning model with DeepFM network, enabling self-adaptive adjustments in model metrics based on changes in LP's leads and data features through a heuristic algorithm. Number of forecast in the algorithm reached over 1 billion per day.

Among our major users, the system efficiency improved by 20% to 40%, resulting in an increase in insurance premiums of tens of millions R&D level this quarter. Meanwhile, we have also obtained several key intellectual property rights in this space.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

The AI-powered matching tool has formed a core technological advantage in Waterdrop's insurance marketing service system. Technology has become the core driver in promoting the transformation of the insurance business. We have made positive progress in terms of our insurance digitalization and intelligence transformation and our striving to establish more digital competitive strength.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

Our proprietary confluence medical knowledge graph was built upon real cases and covers 99% of the diagnostic database and medical insurance catalog library, and more than 98% of hospitals and disease identification institutions nationwide. We have also standardized the names of drugs and diseases that frequently occur in our daily operation, generated over 30 million uniformed codes, and integrated hundreds of thousands of nodes and over a million entity relationships. At Waterdrop, we have applied the knowledge graph in various business scenarios.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

In scenario of patients' recruitment for clinical trials, under the compliance framework, we have upgraded the traditional recruitment model and provided a direct connection between doctors and patients through our online open platform. Leveraging our powerful intelligent system, medical knowledge graph, and medical data center, we fully take advantage of our deeply structured patient data, treatment data, and the data outside the hospital system to determine the right trial patients. Within the compliance framework, we firstly apply multimodal learning algorithms to provide precise patient segmentation by integrating picture and text materials. With this segmentation, we leverage the cutting-edge algorithm architecture BERT plus CRF to carry out comprehensive structured data analytics, and fully consider the patient's convenience and the distance between the patient's location and research center.

And then, we recommend the most suitable clinical trial project to patient, thereby expecting to improve the recruiting efficiency and the matching rate.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

In the scenario of auditing for medical crowdfunding business, we adopt YOLOv5 target detection algorithm to mask off, desensitize, and identify information, such as ID card, hospitalization number, cellphone, home address, infectious diseases, etc., to protect user privacy, while automatically entering information in the crowdfunding application files into the audit process to control fraud risk and improve the effectiveness of the audit.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

In insurance claims processing scenario, we refined claim settlement rules for nearly 10,000 medical insurance products in the market and formed nearly 100 core engine models to support automatic calculation of various products. Also, we predict high-to-low-risk cases based on medical knowledge mapping to improve the accuracy of claims and reduce the risk cost rate by more than 20%.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

In smart underwriting scenario, currently, our proprietary database for the insurance underwriting covers more than 10,000 worldwide diseases and the major unhealthy conditions of our users. Based on each user's specific health conditions, the system also makes intelligent insurance product recommendations. As our business grows, we will keep upgrading our insurance underwriting system. This, coupled with our AI analytics on the questionnaires related to health conditions and insurance products, will enable our intelligent insurance underwriting platform to integrate complex underwriting logics and undertake extensive business volume.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

Next, let me talk about our medical crowdfunding business update. In spite of the fluctuations in the market in third quarter, our Waterdrop Medical Crowdfunding business has grown well, which further reinforced its market-leading position during this quarter. As of the end of Q3, the number of donors reached 383 million, helping 2.23 million patients, and pushing the cumulative funds raised amount to over RMB 45.7 billion.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

From the perspective of its internal role in business segments interactions, Waterdrop Medical Crowdfunding is not only acting as an aid-seeking platform for critical illness or a stand-alone scenario for insurance conversion, but also a multifunctional conversion scenario for patient management services, Waterdrop Medicine, and patient recruitment for clinical trials. Thereby, Waterdrop Medical Crowdfunding is a fundamental incubator to launch more healthcare business to help customers with critical illnesses.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

In terms of external business cooperation and medical system building, we assisted local governments to tap into multilevel medical insurance and medical assistance system to support common prosperity. For example, we have cooperated with Jinyun County Health Care Security Administration of Zhejiang province to launch the Jinyun Project, a project to build up a one-plus-two-plus-four multilevel system of medical insurance for poverty alleviation. By working with local governments, Health Care Security Administration, Civil Affairs Department, Health Commission, and the charity organizations, we have established a multi-department information platform with integrated poverty relief resources. The initiative will help the government establish a long-term mechanism for precise medical assistance that will prevent poverty caused by diseases, further meeting the diversified health insurance needs of the public.

Following a half year of its launch, Jinyun Project makes the number of people who obtained assistance and the number of medical aid funds both exceed those in 2020.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

In another case here on this ground, Waterdrop upgraded Jinyun Project to operate Zibo Qihuibao or Zibo Inclusive Medical Insurance Program. To meet the needs of the Zibo Health Care Security Administration, we linked the reimbursement of Qihuibao with charity medical aid funds to some rare diseases and the related drugs. This will effectively support poverty prevention and promote the development of Zibo's multi-level medical insurance system.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

And I will introduce our healthcare business in the third part. Benefitting from the synergies from Waterdrop Medical Crowdfunding and Waterdrop Insurance Marketplace, we have been able to develop healthcare business with capabilities that other companies do not have, that being the huge patient resources, hospital networks, and cooperation with pharmaceutical companies accumulated over years. Our business segments are at different stages of development but several have already begun to take shape. For instance, both Waterdrop Medical Crowdfunding and Waterdrop Insurance Marketplace have enjoyed industry-leading competitive advantages, while our healthcare business has gained growth momentum gradually since the initial exploration last year.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

Besides our PBM business, Waterdrop Medicine, and patient management business as we discussed before, next, I will provide an introduction to the business and the prospects of our patient recruitment for clinical trials.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

Our Waterdrop Medical Crowdfunding service helps patients raise funds to solve their problem for medical payments. On top of that, we also found some patients have developed resistance to existing drugs in the market or wish to take new treatments but cannot afford the high costs. These patients may inquire about the new drug clinical trial programs, hoping to receive free access to new drugs through these programs. To address this pain point for patients, we are developing the digital platform for patients' recruitment.

The platform helps patients find the best matches for clinical trials and access new drugs and frontier innovative therapies while reducing their financial burden from treatment costs. The ability to directly and accurately reach a wide range of patients who are willing to and receptive to participate in clinical trials is also one of our key advantages, which will enable us to stand out from other patient recruitment platforms in China.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

From the perspective of pharmaceutical companies in the medical industry chain, new drug R&D has always been regarded as high-risk and high-reward. The market has long said that developing a new drug could take 10 years and cost $1 billion. Of which, the patient recruitment cost would account for approximately 10% from clinical CRO. Hence, a faster patient enrollment could drive an efficient completion of clinical trials.

This would help save the cost, and speed up the process of new drug development and the product launch, which has remarkable commercial value and social significance.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

Through our team's initial exploration, we expect to have over 100 patients enrolled in the clinical trial projects per month by the end of the year. These cover clinical trials of new drugs for lung cancer, liver cancer, gynecological tumors, and gastrointestinal tumors. We are also exploring expansion of our CRO services through clinical recruitment and provide more high-value new drug development services.

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

[Foreign language]

Xiaojiao Cui -- Investor Relations

Although the contribution from the medical business to overall revenue is modest as of now, we have seen promising progress across the sub-segments. We will provide updates on this business regularly in the future. With that, we will now turn over the call to Kevin, our CFO, to discuss our third quarter financial performance.

Kevin Shi -- Chief Financial Officer

OK. Thank you, Hu Yao. Before I go into details on the financial performance, please be reminded that all the numbers quoted here will be in RMB, and please refer to our earnings release for detailed information on our comparative financial performance on a year-over-year basis. In the third quarter of 2021, our first-year premium reached RMB 4,639 million and we managed to achieve stable and positive growth in FYP on a relatively high basis during the period of industry transformation.

Our net operating revenue decreased by 9.7% year over year to RMB 779 million from RMB 863 million and decreased by 7.3% on a comparable basis, without taking into account the management fee income from mutual aid business we already ceased in the first quarter. The decline in revenue was due to softening trend in FYP and a decrease in our take rate compared with last year, which was caused by the fast expansion of our customer base compared with last year. In recent months, we have seen our take rate stabilize and begin to pick up, resulting from the improvement in our business quality. Operating costs and expenses for Quarter 3 increased by 31.5% year over year to RMB 1,292 million.

However, on a quarter-over-quarter basis, it decreased by 26.4% compared to this last quarter, showing our measures on cost control have taken effect. To break it down, the operating costs were RMB 296 million, an increase by 49.2% year over year, mainly due to the increase in labor cost as our consultants and insurance agent team expanded rapidly compared to last year, and an increase in professional and outsourced customer service fees. Sales and marketing expenses increased by 24.3% year over year to RMB 782 million for the third quarter of 2021. The increase was primarily due to an increase in the outsourced sales and marketing service fees to third parties, and increase in payroll and related expenses for employees involved in sales and marketing functions.

As we announced in last earnings call, we would reduce such expenses materially, and we managed to deliver the result this quarter. On a quarter-over-quarter basis, sales and marketing expenses decreased by 37.2% from last quarter. Along with the sales model upgrade, we have reduced reliance on third-party traffic through more refined operational management and a strict cost control. G&A expenses increased by 9.4% in Quarter 3 to RMB 111 million year over year and decreased by 25.3% quarter by quarter.

R&D expense increased by 92.9% to RMB 103 million year over year and increased by 2.6% quarter by quarter. We uphold the technology-driven innovation and continue to invest in R&D on a disciplined manner. In third quarter, we incurred a net loss of RMB 477 million on a GAAP basis and an adjusted net loss of RMB 454 million, decreased by 27.3% and 20.4%, respectively, compared with last quarter. For the fourth quarter of 2021, following the cost control plan in the third quarter, we expect to further materially reduce our sales and marketing expenses, as well as total operating costs and the expenses compared to this quarter.

Such outlook is based on the current market conditions and reflects our preliminary view and estimates, which are all subject to change. This concludes our prepared remarks. I will now hand over to the operator to open the call for Q&A. Operator, we are ready to take questions.

Thank you.

Questions & Answers:

Operator

[Operator instructions] We will now take our first question from Michael Li from Bank of America. Please go ahead.

Michael Li -- Bank of America Merrill Lynch -- Analyst

Thank you. [Foreign language] Thanks, management. This is Michael Li from Bank of America Securities. My question is about cost.

So, we see that third quarter cost and the marketing expenses dropped quite significantly from second quarter in line with our previous guidance. And I also see that in the announcement that we forecasted that in fourth quarter, we will continue to see material reduce of our cost and marketing expenses. So, my question is whether this kind of cost is because of seasonality because third quarter and fourth quarter are usually weaker quarter compared with first quarter and second quarter, or this about our strategy changes in the current challenging environment. We want to control our cost and control pace of expansion and to make more balanced growth and focusing more on profitability.

Thank you.

Kevin Shi -- Chief Financial Officer

Hi, Michael. Thank you for question. I think it's a great question. Actually, the main reason is a change of our strategy on the cost control side and also the seasonality.

If we compare with last year, the year-over-year increase in total cost and expenses was mainly due to the increase in operating costs and R&D expense. And total operating costs and expenses increased by RMB 310 million year over year, mainly due to the increase in labor cost. But comparing with Quarter 2, our total operating cost and the expenses reduced significantly this quarter. The decrease of RMB 462 million in total costs and expenses quarter over quarter was mainly due to the decrease of RMB 460 million in marketing expenses to the third-party traffic channels.

And the increase in R&D expenses was mainly due to the increased R&D investment as planned to the infrastructure and the functionality, as well as the technology empowerment to the insurance companies and other partners. And actually, we have adopted a lot of specific standards to control costs and expenses in Quarter 3 and Quarter 4. In terms of total marketing expenses, our matters include: Number one, we have lowered the marketing expenditure and used stricter criteria to select traffic acquisition platforms; and then, number two, we are also leveraging our AI-empowered platform to conduct more intelligent and targeted marketing. We have seen good results from the tested strategies.

In terms of operating costs, specific matters include: number one, reviewing key tasks and all business procedures to identify where and how to optimize; and number two, integrating organizational functions with high synergies; and number three, strengthening control over our selection of suppliers; and number four, measuring some certain offices who are moving to areas with more reasonable rents. And considering the industry is currently in a period of transition. All the players will somewhat adjust business strategy, and the competitive landscape will also undergo some changes. Platforms with more aggressive but non-compliant business practice are expected to be greatly shadowed by the new regulation, which is good for Waterdrop in the long run.

We -- in terms of the profitability, actually, we originally planned to proceed in 2023. But as market environments change, we have increased our efforts to control costs and expenses. Marketing expenses, which used to be our largest, highest item have been significantly reduced in third quarter. And we expect this trend will continue in the fourth quarter.

So, our goal is that our mature business will break even by certain months earlier than 2023. Hope that addresses your question, Michael. Thank you.

Michael Li -- Bank of America Merrill Lynch -- Analyst

Thank you.

Operator

We will now take our next question from Kui Ma from CICC. Please go ahead.

Ma Kui -- CICC -- Analyst

[Foreign language] My question is about your auto plan. Could you please talk a little bit about the advantages of your commission system compared with traditional insurance companies? And what would you do to promote offline growth in the new cycle? That's all for me.

Yang Guang -- Co-Founder, Director, and General Manager of Insurance Marketplace

Thank you, Kui, for the question. This is Yang Guang speaking. I will answer your question. I think our national head of auto team has already been on board in last quarter.

And he previously spoke in the innovation-oriented insurance clients, such as AIA and Allianz Life Insurance. And after several months of research and experience-based review, we basically formulated the preliminary outline and the general rules for our offline brokerage team. And as mentioned earlier, different from the traditional procurement structure in the insurance industry, we decreased the sales organizational structure to two layers only in order to save more incentive for the direct sales team and increase the recruitment competitiveness. We replaced the traditional management layers with AI-driven system and online tools to provide more efficient premium customization and operation management support.

And we are currently working on the constructional infrastructure and recruiting. And we will probably pilot the innovative model in three to five cities, especially speaking, we adopt a more productive model, as well as management and control mechanism. I think going forward, we're going to continue to strengthen our capabilities in several aspects: I think firstly, to further diversify our customer source both online from our platform and offline from our sales force; and secondly, to make more efficient distribution and the use of subsidies based on the accurate identification of user needs and the data-driven operation; and thirdly, to be more user-centric to further increase our product offering and deepen the service level by leveraging the offline sales force; and fourthly, to equip the offline sales force with online user operation knowhow, CRM system, and online tools, and further assist the sales force to build our personal IP through social media and internet platforms. For our management and control mechanism, we will focus on productivity and efficiency of our offline team and develop corresponding organizational structure, training system incentive mechanism, and management model, which hopefully will inspire the team's sales potential.

And meanwhile, we will continue to explore different offline models for different customer groups in the future. Hope that answers your question. Thank you.

Operator

[Operator signoff]

Duration: 60 minutes

Call participants:

Xiaojiao Cui -- Investor Relations

Shen Peng -- Founder, Chairman, and Chief Executive Officer

Yang Guang -- Co-Founder, Director, and General Manager of Insurance Marketplace

Hu Yao -- Co-Founder, Director, and General Manager of Medical Crowdfunding and Health Care

Kevin Shi -- Chief Financial Officer

Michael Li -- Bank of America Merrill Lynch -- Analyst

Ma Kui -- CICC -- Analyst

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