Bilibili (BILI 1.46%), a young Chinese online entertainment company, has enjoyed impressive returns since its 2018 IPO, thanks to strong revenue growth. Still, investors may wonder what edge Bilibili has, considering that it operates in an ultra-competitive China entertainment industry with major players like IQIYI Inc (IQ 0.21%), Tencent, HUYA Inc-ADR (HUYA -3.73%), and more. But in a sea of wannabes, here's why I think Bilibili's a legitimate contender.

Man with crystal ball

Image source: Getty Images.

What Bilibili does

"We enrich the everyday life of young generations in China."

That's the mission that Bilibili shared in its IPO prospectus. It aims to fulfill that by providing a wide range of entertainments and services -- which include online games, videos, live broadcasting, and e-commerce -- to delights its users.

A typical user may join Bilibili's platform initially for its ACG (animation, comics, games) content, then move on to consume other video content --which include professional user-generated and licensed video content -- across different genres including lifestyles, games, dramas and more. Sometimes, they may join friends -- met on the platform -- for online games that are available only to Bilibili's users. Occasionally, they tune in to watch their favorite host performing on the live-streaming show, while at the same time, they shop for the latest anime products on Bilibili's mall. They usually end up buying something from the mall, as well as rewarding the host with virtual gifts.

In short, Bilibili's business model combines the playbook from companies such as Youtube, IQIYI Inc, HUYA Inc, and NetEase (NTES -4.50%).

Why Bilibili's business model works 

At first glance, investors may find Bilibili's "diversified" business model unnecessarily complex -- usually a sign of poor focus and unclear strategic direction. Yet a deeper look reveals many positive attributes about the company.

To start with, Bilibili aims to become a one-stop entertainment platform for its users. By diversifying its content offerings, it can appeal to a wider range of users while improving the engagement level of its existing members. As more users join Bilibili's platform and the engagement level grows, content creators -- who are also members of the platform-- will be encouraged to share more quality content.

This, in turn, attracts even more new users, sparking a virtual cycle of continuous growth in the company's user base and content. The result is evident in Bilibili's operational metrics: Monthly active users (MAUs) have grown from 77 million in the first quarter of 2018 to 172 million in the first quarter of 2020  while average usage time per user per day has increased from 76 minutes in 2017  to 87 minutes lately.

With a growing user base and improving engagement level, Bilibili can now monetize its business across multiple avenues, which include mobile games, value-added services, advertising, and e-commerce. This not only results in a more diversified and stable income source for Bilibili, but also opens up new growth opportunities.

For example, revenue from value-added services grew 172% year-on-year in the first quarter of 2020, more than doubling the companywide revenue growth rate of 69%, thanks to higher income from its newly launched premium membership program and live broadcasting.

Another important thing worth mentioning here is Bilibili's strong emphasis on community-building and social engagement. Its many aspects include providing social and interactive features on its platform to encourage interaction among users -- such as bullet chatting (users' comments that pop-up as texts on your screen when you watch video), liking and following, gifting and rewarding, and communication tools-- and mandating a membership exam for users to become "official members."

Users need to pass a multiple-choice membership exam consisting of 100 questions, after which they can access to features available only to official members. These efforts result in a more engaged and loyal member base who:

  1. Consume, upload, and share more content
  2. Spend more money on services and products
  3. Become brand ambassadors for the company

The risks Bilibili faces

Despite all the positive factors mentioned above, investors should carefully watch several key risks for this young company.

Continuing losses

Bilibili is still a loss-making business and will likely remain so in the foreseeable future. Its operating loss has expanded by 305% between 2015 and 2019  owing to the company's continuous investments in sales and marketing, content, and research and development to grow the business.

Since the business remains in its early stages of monetization, future revenue may fall short of its original plan -- or fail to keep up with escalating costs. In other words, the company may never become profitable.

Fortunately, the company's financial metrics have improved over the last few years. Quarterly revenue per monthly active user has increased roughly 19% from Q1 2018 to Q1 2020,  and gross profit has improved from negative RMB 173 million in 2015 to positive RMB 1.2 billion in 2019 -- indicating that Bilibili is moving closer toward profitability.

Lots of competition

Bilibili operates in the highly competitive entertainment industry, with major players like IQIYI, Tencent Video, Youku, Huya, and more. These companies tend to focus on a specific segment of the entertainment industry -- for example, IQIYI focuses on video streaming, while Huya specializes in live-streaming -- while Bilibili operates in many segments. Hence, there's a risk the company may be a jack of all trades, master of none, weakening its competitive position over time. So far, however, Bilibili's strategy has been relatively successful in attracting and retaining its members, as evidenced by the improving operational metrics we mentioned above.

Why Bilibili's still a stock worth watching

Bilibili is a classic growth stock: a very high growth rate but no profits. Though it's still in its early days, the young company has demonstrated solid performance -- revenue has grown at an annualized rate of 168% over the last four years  -- thanks to its one-stop entertainment platform strategy.

Such performance has not gone unnoticed -- both Tencent and Alibaba Group Holding Ltd (BABA 0.57%) have invested 13.3% and 7.2% , respectively, in Bilibili's stock, which is a vote of confidence for the young company.

On balance, I think Bilibili is a company worthy of further research, especially for investors who are looking to invest in growth stocks.