NetEase Telephone Conference Transcript: "Believe in the ability of long-term operation"

The following is $NetEase. US 4Q22 results call minutes, financial report comments can review "NetEase: Edition Ganlin continues, can "Egg Party" speed up the new cycle? (NetEase's net income in the fourth quarter of 2022 was 25.4 billion yuan, a year-on-year increase of 4%)

1. Management speech

Overall: 2022 was another year of strong growth, with we seeing healthy and steady growth in each of our core business units. Our total net revenue for the full year was 96.5 billion yuan – reflecting NetEase's resilience and operational efficiency improvements across different macro cycles.

1. Games and related value-added services

(1) Net revenue from games and related value-added services for the full year of 2022 was RMB74.6 billion, an increase of 10% year-on-year.

(2) In the fourth quarter, traditional "legacy" games still showed strong appeal to users - both the "Fantasy Westward Journey" and "Westward Journey" series still maintained a fairly high user stickiness. We're constantly introducing new content updates that have kept this IP alive for more than two decades. We'll also be launching Westward Journey: Homecoming, and with this new addition, we expect to further expand the IP's user base.

(3) Our new game "Egg Party" took the Chinese game market by storm in Q4. The game was originally released in May 2022 and the number of daily active users has been constantly growing. During the Lunar New Year, Egg Party reached new heights – ranking third on the iOS download charts in China, and it has more than 13 million daily active users, making it the largest game in media history.

In addition to our in-house production and interactive gaming experience, Eggboy Party distinguishes it from other party-based games through the unique contribution of user-generated content. We encourage players to take advantage of the different features in Edit Mode to design and publish new levels on the platform. Player engagement with user-generated content further enriches the content, creating a virtuous cycle that allows fresh content to be continuously added to the platform and increases player engagement and loyalty. To foster a thriving and self-sustaining ecosystem with enduring potential, we will continue to provide these players with tools and incentives to incentivize and empower them to generate more content.

(4) Our award-winning adventure mobile game, Light Encounter, launched in 2019, also performed strongly in the fourth quarter. It provides players with a heartwarming gaming experience and builds a vibrant and fan community. During the quarter, Guangyu downloads also soared to the top of China's iOS system.

(5) While making significant progress in casual gaming, we also maintain a strong presence in the hardcore gaming space. This is from the continued popularity of our key games like Diablo Immortal and New Ghost on mobile.

(6) The expansion of new tours in 2023 is exciting. We will further expand our coverage with a series of new games. We've licensed some exciting games in China, such as Against the Water Cold Mobile Game, Racing Master and Extraordinary Vanguard Banlanders.

A. Take the Justice mobile game, for example, which complements the success of the PC version and is scheduled to launch later this year. The mobile version will recreate the vivid world of Kabuki on mobile devices, using advanced gaming technology to deliver an amazing gaming experience. Equally important, as the next generation of MMOs, this game represents a major evolution beyond the traditional norms of player interaction in the MMO genre, offering a truly unique gaming experience. We believe that the captivating and immersive open-world experiences we create through mobile games will continue to raise the bar for MMO and the broader mobile gaming industry.

B. Racing Master is also coming. As our second racing game, Summit has a triple-A racing experience. Players can expect an authentic racing experience with dynamic car handling and performance. With licensed cars from over 100 well-known car brands from around the globe, players can fully immerse themselves in the exciting world of racing and experience a world like never before.

C. Bad Landers is our next-gen shooter mobile game with all-new escape mechanics and an exciting battlefield experience. We'll be going to be testing a few rounds and hopefully we'll be able to bring the game to life soon.

(7) Overseas, we are preparing to launch the highly anticipated Harry Potter: Magical Awakening around the world. Our team is working to continue enhancing and refining its gameplay and user experience, ensuring that our global gamers will live amazing magical lives on mobile and PC. We're also working on a series of expansion packs that are about to be ready so that our global players will always have a lot of engaging content.

In addition to these, we will continue to strengthen our strong pipeline and are actively developing a variety of exciting new games. The benefits of these pipelines are making solid progress and show great potential in Q4.

(8) We have also made further progress in global asset expansion. For example, we're excited to welcome Skybox lab from Canada to join us. Skybox lab has an impressive track record in game development and has contributed to some of the industry's most famous franchises such as Halo Infinite, Minecraft, and more.

Earlier this month, we also announced the establishment of Spliced, a new global game studio. Spliced is driven by a group of passionate industry gurus from diverse backgrounds, including being involved in the development of major game series, including Grand Theft Auto, Call of Duty, and more.

2. Education business (Youdao)

(1) Q4 Youdao achieved a record net income of 1.5 billion yuan and achieved positive operating income of 25 million yuan for the first time. This impressive result proves that our ongoing efforts are effective – to provide cutting-edge updates to our smart devices and enhance our learning services.

(2) Youdao smart device net revenue in the third quarter reached RMB407 million, a year-on-year increase of 28%. Its contributions are mainly from new products, including Youdao Dictionary Pen P5 and Adult Learning Tablet X10.

(3) Our STEM course services continued to perform strongly in the fourth quarter. We partnered with Minecraft for Education to successfully launch an online learning software, Youdao literature, whose impressive subscription and renewal rates are a testament to high praise from learners and parents.

In addition, we have strengthened our gold course offering by introducing championship courses led by World Go Champion Ke Jie. Our Champion Program is part of a comprehensive learning path that covers from introductory to advanced and culminates in the Champion level program. The new product was a huge success, increasing total revenue by more than 50% in the fourth quarter and achieving significant retention rates.

Going forward, we will continue to focus on technological innovation and leverage our cutting-edge technology to ensure the long-term success of our smart devices and learning services.

3. Cloud music business

(1) In the fourth quarter, our main operating trends and financial performance were very good——

MAU for the full year was 189.4 million, up 4% year-over-year; The annual DAU/MAU ratio was 20.2%.

Total revenue increased 29% year-over-year.

Gross margin was 17.8% for the fourth quarter and 14.4% for the full year

(2) We continue to expand and diversify our copyright library - including the return of major labels such as Modern Sky, China Record Corporation, Fenghua Qiushi, Lehua Group, SM Entertainment and so on. Records saw impressive sales in the fourth quarter, demonstrating a high-quality audience base, deep user engagement, and a willingness to pay on our cloud music platform.

With an unwavering commitment to fostering an inspiring environment that encourages and empowers musicians to create, the number of independent artists registered on our platform has exceeded 600,000 by the end of 2022. Our in-house music studio has also made solid progress, promoting a number of hits.

4. Strictly select business

In the fourth quarter, we launched more popular products through diversified channels, adding our pet products, home cleaning products and home furniture. We will continue to focus on original designs to provide consumers with enjoyable lifestyle choices.

5. Summary

We are honored that we have achieved different degrees in ESG, gender equality, etc.

In 2022, we continued to perform strongly across every business line and made new progress in every major vertical in which we operated. With our global ambitions, our wide range of products and services is gaining access to a wider audience. With us building a solid foundation throughout our business, we believe we are well positioned to achieve more at home and abroad.

2. Analyst Q&A

Q1: Regarding the domestic game landscape, with the normalization of the domestic game approval process, will NetEase reallocate more resources to some development of domestic games, or will it invest more resources in new games specifically for overseas players?

A1: From the past few months, the distribution of domestic game numbers has become normalized, which is great news for us. NetEase has always attached equal importance to the domestic and overseas markets, and there is no situation where we have to change our strategy after (version approval) is opened, we have always attached importance to both sides.

Q2: Regarding overseas games, how does the management view the competitive landscape of the global game market, the opportunities and challenges that the company sees, or where are our strengths and weaknesses? In the process of international business, can there be some synergies with domestic business?

A2: Actually, overseas games and Chinese game status are quite different from our current perspective. Players in Europe and the United States attach great importance to terminal games, and the views of mobile games are more inclined to leisure. Japan and South Korea are considered to be both likely to accept mobile games and mobile games. Many gamers in China are more inclined to use mobile games.

Therefore, our positioning in terms of content is also different, and the content positioning of PC games and the content positioning of mobile games are also different, so here you can't help but say that there are differences, but I believe that NetEase can find a way to solve it, and I am also very sure that we will definitely be able to develop some games in the future, which are works that can be accepted by everyone at home and abroad.

Q3: Can you share the R&D progress of the mobile game and the content difference compared to the mobile game?

A3: The mobile game against the water and cold got the version number in January, and we are currently making final preparations before going online, and we are expected to meet you soon in the first half of the year. Compared with full-end games, our mobile games will pay more attention to the player's game experience, and take more into account players of various game types, including single players, multiplayer players and so on. Throughout the content development process, we have a lot of groundbreaking innovations that are relatively traditional, including the use of state-of-the-art technology for content production. It is also a release in the game that emphasizes more individuality.

In fact, after summarizing NetEase's experience in large-scale MMO games in the past 20 years, we have put forward many new ideas for the next generation of MMOs, and implemented them in the game, I believe it will bring a very different experience to all players, so stay tuned.

Q4: What do you think of the success of the egg party? Is there a track record/replicable of such success? Will the problem of late release slippage be reproduced at the egg party?

A4: Egg Party is a very successful casual game for NetEase, which has achieved great results in the past few months. I believe that the problems you are worried about will not happen in the future, because we will not repeat the mistakes we made in the past. We really want the game to bring users an enjoyable family experience. We will invest more R&D and management to do a good job in the long-term development of the game, this long-term is at least ten years, I believe we have this ability - just like Fantasy Westward Journey, we can make this game for 20 years, and I also believe that it can be achieved in Eggboy.

Q5: What about the performance of Eternal Calamity on the host platform and the new timeline?

A5: After we launched Xbox last June, it became clear that a large number of players were starting to try our game, and we collected a lot of feedback.

In the months that followed, we worked on optimizing the newbie phase for such new players, especially overseas players. We worked closely with our user research team in Montreal, Canada, to test and tweak on many fronts. At present, we have seen more obvious tuning on the data, which will be a great help for us to release new games on the PS platform this year. We are also going smoothly and will optimize our game operation and performance according to some operation characteristics of mobile games.

At present, there are also some tests, and I believe that the experience it will bring on the mobile phone can also restore the core fun of Eternal Disaster Melee Combat.

Q6: How to consider the 23-24 year profit margin outlook for the entire group?

A6: Regarding the margin outlook, I think our gaming margins will remain relatively stable over the next 2 to 3 years.

You're right, our overseas studios are in the investment phase, and the games they develop may not enter the market until 2025 and beyond. However, we do have a very strong and sizable portfolio of existing games that provides very strong support for cash flow, profitability, margins, and profit margins.

And for our subsidiaries, such as Cloud Music and Youdao, there is already a clear trend of narrowing losses. We are very confident that these two companies can be very optimistic about their sustainability and balance of payments. So, all in all, I think our margins will remain stable and improve slightly over the next 2 to 3 years, and the margins beyond 2025 will be mainly driven by commercial launches of overseas games, which is still in development.

Q7: Is there anything you can share about the new products and the direction of development in the second half of the year?

A7: This year and beyond, we definitely have long-term plans for games. And we believe that innovation is the soul of the work, so we will attach great importance to the gameplay of each work itself. We are also confident that we will continue to be able to bring strong best-selling games to market year after year.

Last year, we also had blockbuster games, and this year we had Egg Party, and these are breakthroughs. We've been equally successful with cold weapon games, as well as in casual games that you play with your family and friends. So I'm very confident that you'll continue to see new, exciting, innovative games interspersed with each other.