Gaotu Techedu Inc. (NYSE:GOTU) Q2 2023 Earnings Call Transcript

Gaotu Techedu Inc. (NYSE:GOTU) Q2 2023 Earnings Call Transcript August 30, 2023

Operator: Ladies and gentlemen, thank you for standing by, and welcome to the Gaotu Techedu Second Quarter 2023 Earnings Conference Call. All participants will be in a listen-only mode. [Operator Instructions] After today’s presentation, there will be a question and answer session. [Operator Instructions]. Please note that today’s event is being recorded. I would now like to turn the conference over to your first speaker today Ms. [Katherine Chen] Head of Investor Relations. Please go ahead, Katherine.

Unidentified Company Representative: Thank you, operator. Good evening, everyone. Thank you for joining Gaotu’s second quarter 2023 earnings conference call. My name is Catherine, and I’ll help host the earnings call today Gaotu’s earnings release for the quarter was distributed earlier and is available on the company’s IR website at ir.gaotu.cn, as well as well as through PR Newswire Services. Joining the call with me tonight from Gaotu’s senior management is Mr. Larry Chen, Gaotu’s Founder, Chairman and Chief Executive Officer, and Ms. Shannon Shen, Gaotu’s Chief Financial Officer. Larry will first provide business highlights for the quarter, and then afterwards, Shannon will discuss our financial performance in more detail.

Following their prepared remarks, we will open the floor to questions from analysts. Before we begin, I would like to remind you that this conference call will contain forward-looking statements made under the safe harbor provision of the U.S. Private Security Litigation Reform Act of 1995. These forward-looking statements are based upon management’s current beliefs and expectations, as well as the current market and operating conditions, and they involve known or unknown risks, uncertainties and other factors, all of which are difficult to predict and many of which are beyond the company’s control and may cause the company’s actual results, performance or achievements to differ materially from those contained in any forward-looking statements.

Further information regarding these and other risks is included in the company’s public filings with the U.S. SEC. The company does not undertake any obligation to update any forward-looking statements, except as required under applicable law. During today’s call, management will also discuss certain non-GAAP measures for comparison purposes only. For a definition of non-GAAP financial measures and reconciliations of GAAP to non-GAAP financial results, please refer to our second quarter earnings release published earlier today. As a reminder, this conference is being recorded. In addition, a live and archived webcast of this conference call will be available on Gaotu’s IR website. It is now my pleasure to introduce our Founder, Larry. Larry, please.

Larry Chen: Thank you, Katherine. Good evening and good morning, everyone. Thank you for joining us on Gaotu’s second quarter 2023 earnings conference call. I would like to take this opportunity to express my gratitude to all of you for your interest in and support for Gaotu and the education industry. Before I start, I would like to remind everyone that all financial figures discussed today are quoted in RMB unless stated otherwise. During the second quarter of 2023, we continued to execute our effective growth strategy. We grew gross billings substantially on both an annual and sequential basis, while also recording our third consecutive quarter of profitability and generating a sizable positive net operating cash flow. Our net revenue grew 30.7% year-over-year to RMB703.1 million, and our gross billings reached RMB882.3 million up by 63.7% quarter-over-quarter and 44.2% year-over-year.

Thanks to ongoing improvements in our organizational and operational efficiency, which delivered a triple-digit year-over-year increase in both income from operations and net income. Our non-GAAP net income margin for the quarter reached to 9% and we generated a positive net operating cash flow of RMB288.5 million. Backed by ample cash reserves, we have been steadily ramping up our investments in talents, continuously refining our educational content and services, and persistently improving teaching quality and learning efficiency through artificial intelligence, technological innovation, and organizational upgrades. These efforts have strengthened our competitive edge in terms of content-driven customer acquisition and teaching quality, creating a flywheel effect.

As the flywheel started to turn, our customer acquisition experience ongoing improvements in efficiency, and operating leverage began to grow, resulting in increasing clarity for our growth trajectory. Our focus remains on two major business lines, learning services and educational content and digitalized learning products. Learning services continue to serve as the core pillar of our business as the predominant revenue contributor. It mainly includes non-academic tutoring services and other traditional learning services, educational services for college students and adults, and overseas study-related services. We will now discuss business highlights of the quarter from three aspects. First, propelled by the dual engines of the product growth and organizational capability, we remained laser-focused on enhancing our products and services.

While all of our core business segments continued on our healthy development trajectory, our cost delivery, quality, and operational efficiency also improved during the quarter. With a strong focus on building organizational capacity, we not only cultivated a large pool of highly talented instructors and tutors internally, but also forged a long-term partnership with prominent universities to continuously source passionate teaching professionals. By fostering an innovative and cohesive workforce, we aimed to internally drive business breakthroughs. Meanwhile, our relentless pursuit of excellence in educational products, teaching quality and learning services is best represented by the compelling results our students are able to achieve. I will now share some of the progress and accomplishments we have achieved in this aspect during the second quarter.

To start, our non-academic tutoring services booked roughly 75% year-over-year increase in revenue and generated a positive net of reaching cash flow during the quarter. We continuously optimized the product value and service quality and diversified the delivery format to cater to customer needs. As a result, the business delivered a double-digit increase in gross billings on both an annual and sequential basis in the second quarter, operationally, we are glad to see increased user satisfaction as well. In particular, non-academic tutoring services’ core offerings our retention rates improved remarkably compared to the same period of last year. Educational services for college students and adults, another key component of our learning services, also delivered a solid performance.

Within the segment, the post-graduate entrance exam prep business saw a nearly 40% year-over-year increase in net revenue. According to our survey results, the success rate was more than twice that of the national average for the national graduated school entrance exam class of 2023. In addition, some of our overseas test prep and overseas study consulting business such as the [IELTS] prep business achieved a nearly triple-digit revenue growth quarter-over-quarter. Finally, our well-established traditional learning services business also delivered a robust performance. According to our preliminary data, more than 210 Gaotu students were admitted to the top two universities in 2023. Going forward, we expect all of our main business lines to sustain highly growth momentum while maintaining a high standard of instruction and delivering improved learning outcomes.

Second, we are constantly pushing the boundaries through business innovation, expanding into a diverse range of new channels to acquire customers and improve conversion efficiency. Since the beginning of this year, we have been actively exploring innovative customer acquisition channels, including short-form videos and live streaming platforms, aiming to reinforce our competitive advantage in channels by delivering premium content, boosting user engagement and reducing acquisition costs. We are happy to share with you that the contribution ratio from our self-operated traffic channels increased significantly within certain business segments this quarter. Meanwhile, certain key business lines also achieved the breakthroughs in scaling customer acquisition through short video and live streaming.

[In June], the number of monthly transactional users of the IELTS business acquired through live streaming platforms surged by more than 300% compared to six months prior. The improved efficiency of customer acquisition further contributed to our overseas test prep business positive monthly net operating cash flow and operating profit. Furthermore, there has been a significant surge in domestic demand for studying abroad as the pandemic’s impact gradually recedes and countries around the world ease entry restrictions, it’s worth mentioning that in terms of the specific efficiency indicators. Our selling expenses ROI for this quarter saw a nearly 20% improvement compared to the same period last year. Looking ahead, we will continue to build upon our experience and know-how to further optimize our diverse channel layout.

Moreover, we will continue to leverage our lean operations management model to elevate overall operational efficiency. Third, by cultivating talents and investing in emerging technologies, we are able to amplify the impact and value our exceptional instructors and tutors have. And this in turn, unlocks greater front-end productivity and strengthens our organizational capabilities. Recent developments in artificial intelligence undeniably present significant opportunities and raise expectations for the education industry. We have applied artificial intelligence technologies into numerous user case scenarios for our products and services to continuously improve the efficiency of our teams across front-end teaching, back-end research, customer service and design, ultimately enhancing the overall learning experience for our students.

Including, I would like to emphasize that making learning better will always be a goal to the endeavoring mission and we are willing to embrace all opportunities and challenges that lie ahead. Our dedication to addressing customer needs, prioritizing teaching quality and enhancing learning outcomes will remain unchanged. Our continued investment in technological innovation and organizational capability will remain unchanged. Our commitment to our original aspiration to educate will remain unchanged. Guided by our effective growth strategy, we are confident in our ability to create a long-term value for our shareholders, customers and society at large while contributing to the educational development of China. Thank you very much. This is the end of my prepared remarks.

Now I will pass the call over to our CFO, Shannon, to walk you through our financial and operational details of the quarter.

Shannon Shen: Thank you, Larry, and thank you everyone for joining our call today. I will now walk you through our operating and financial performance for the second quarter of 2023. Please note that all financial figures discussed today are quoted in RMB terms unlike otherwise stated. During the second quarter of 2023, our business continued to grow in a healthy manner, achieving profitability while maintaining robust top-line growth momentum. Our net revenues increased by 30.7% year-over-year to more than RMB703.1 million. Our gross billings, a leading indicator of net revenues, increased considerably by 44.2% year-over-year and 63.7% quarter-over-quarter to RMB882.3 million, laying a solid foundation for future revenue growth.

Additionally, as net revenues continued to scale, the impact of operating leverage became more evident. During the quarter, operating expenses as percentage of revenue decreased by roughly 14 percentage points year-over-year and nine percentage points compared to the full-year figure for 2022. Furthermore, key profit metrics improved significantly compared to the same period last year due to greater operating leverage, together with our ongoing efforts to streamline operations and boost efficiency. Our net income experienced triple-digit year-over-year growth, and net income margin improved by approximately 17 percentage points to 8% on an annual basis. Non-GAAP net income increased to RMB63.2 million, with a non-GAAP net income margin of 9%, marking our third consecutive quarter of positive outcomes.

Apart from sustaining profitable growth, it is worth mentioning that during this quarter, we also generated a sizable positive net operating cash flow of $288.5 million. Our solid financial performance stands as the ultimate testament to our resilient business model, strong organizational cohesion, and continuous endeavors in customer acquisition and operational efficiency. In terms of gross billings, which is a leading indicator of revenue, we attained a 44.2% year-over-year increase in this measure. To align with the school schedule, we designate the second and the fourth quarters as our main customer retention season, during which gross billings are no further higher compared to the first and the third quarters. On the operational front, we have firmly adhered to the principle of growth and the efficiency going hand-in-hand.

During the quarter, we achieved healthy year-over-year revenue growth while enhancing customer acquisition efficiency. Our selling expenses in quarter increased by only 20.5%, compared to the same period last year, but an impressive 44.2% year-over-year increase in gross billings, implying roughly 20% growth in our selling expenses ROI. In particular, our new user acquisition efficiency improved by more than 30% year-over-year. This was mainly attained through our continued effort to explore more innovative channels to target and acquire high-intent students at lower costs with higher returns. Since the first quarter, we have enhanced our autonomy over customer acquisition by exploring proprietary channels. These channels have effectively lowered our customer acquisition costs and enabled us to boost user engagement across our platform through creating premium content.

As of the end of the second quarter, some of our key business lines have made promising progress on live streaming and short video platforms, and we will fully leverage the accumulated insights and know-how in the other businesses in order to add value to the company as a whole. Take our overseas tax prep as an example. In June, the number of monthly enrollments acquired through live streaming platforms surged by more than 300% compared to six months ago. Additionally, we have already seen the contribution ratio from our self-operated traffic channels surge significantly within certain business segments in the second quarter. Lastly, we also adopted a targeted approach to acquire customers and serve students through localized and personalized operations.

Going forward, we will continue to improve customer acquisition efficiency to drive effective growth and create a long-term value for our stakeholders. Now, I will walk you through the process we have made during the quarter. Learning services contributed over [75%] of net revenue. Breaking it down, more than 70% of total revenues came from non-academic tutoring services and other traditional learning services, making it a key contributor to our business. For the education industry, non-academic tutoring services represent an emerging vertical with booming market demand and high growth potential, and we expect this segment to be one of our core growth drivers. During the quarter, in addition to turning a profit, this segment achieved a roughly 75% year-over-year growth in net revenue.

Our near-term focus for this business line will still be enhanced and upgrade our curriculum design and product development to deliver offerings that exceed customer expectations and to explore some customer acquisition channels that drive continued growth. Leaning on our competitive strengths in traditional learning services, we will further refine our products and services and diversify our delivery format to cater to customer needs, through which we aim to improve enrollment and retention to promote the sustainable growth of our non-academic tutoring business. The other crucial component of our learning services is educational services for college students and adults, which accounted for more than 20% of the quarter’s total revenue. We optimized our product categories and overall metrics to better align with market demand and improve customer acquisition efficiency and profitability by prioritizing acquisition efforts through content-driven proprietary channels.

Its worth mentioning that in the second quarter, our overseas tax-prep business achieved positive monthly net operating cash flow and operating profit as a result of improved customer acquisition efficiency. Now, I will present our financials in detailed numbers. Our cost of revenues this quarter was RMB184.4 million. Gross profit increased 37.3% year-over-year to RMB518.7 million and gross profit margin was 73.8%. Total operating expenses during the quarter increased 8.5% year-over-year and 5.1% quarter-over-quarter to RMB475.4 million. Operating expenses as percentage of revenue equates roughly 14 percentage points year-over-year, falling from [81.5%] in the same period of last year to 67.6%. This was approximately nine percentage points lower than in the full year 2022.

Similarly in operating leverage, that resulted in an increase in operating profit margin. Breaking it down, selling expenses increased 20.5% year-over-year and 17% quarter-over-quarter to RMB324.1 million. Selling expenses margin increased roughly seven percentage points to 46.1% quarter-over-quarter, reflecting our increased marketing investment to address the robust demand during the summer season. Moving on, research and development expenses, decreased 5.3% year-over-year and increased 1.4% quarter-over-quarter to RMB98.4 million, accounting for 14% of net revenue, which was 0.3 percentage points higher than that of last quarter. General and administrative expenses decreased 19.1% year-over-year and 32.4% quarter-over-quarter to $52.9 million, accounting for 7.5% of net revenue, which was 3.5 percentage points lower than that of last quarter.

This was primarily attributable to a substantial — sequential reduction in share-based compensation expenses. Income from operations increased 171.6% year-over-year to RMB43.3 million and opening margin was 6.2%. Non-GAAP income from operations was RMB58.3 million and non-GAAP opening margin was 7.2%. Net income increased 212.8% year-over-year to RMB56.2 million and net income margin was 8%. Non-GAAP net income was RMB63.2 million and non-GAAP net income margin was 9%. Our net operating cash inflow increased 207.6% year-over-year to RMB288.5 million. Turning to our balance sheet. As of June 30, 2023, we held RMB768.2 million in cash, cash equivalent and restricted cash along with RMB2.9 billion in short-term investments and RMB114.5 million in long-term investments.

This total reached approximately RMB3.7 billion, marking RMB388.9 million higher than the same period of last year, ensuring ample cash resources for continued business development. As of June 30, 2023, our deferred revenue balance was RMB922.6 million, which primarily consists of tuition received in advance. Based on our current estimate, total net revenues for the third quarter of 2023 are expected to be between RMB728 million and RMB748 million, representing an increase of 20.1% to 23.4% on a year-over-year basis. This concludes my prepared remarks. Operator, we are now ready for the Q&A section. Thank you everyone for listening. Thanks.

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Q&A Session

Operator: Thank you. We will now begin the question-and-answer session. [Operator Instructions] The first question today comes from Yiwen Zhang with China Renaissance. Please go ahead.

Yiwen Zhang: Thanks for taking my question. So my question is actually about Q3 revenue guidelines. If you look at on Q2 basis, its roughly through by a mid-single digit. Such growth rate if compared with normal seasonality, it seems a bit softer. So it would be great if you can work out through more details on what is driving that? Thank you.

Shannon Shen: Yes. Thanks Yiwen for joining us. And I do believe this question is fairly representative. We have provided revenue guidance for the upcoming third quarter ranging between RMB728 million to RMB748 million in RMB terms indicating a year-over-year growth of 20.1% and 23.4%. The guidance we provided has factored in two reasons. Firstly, there is a strategic shift in focus within the learning services for college students and adults. The strategy has involved from scale expansion to a sequential emphasis on profitability. So, under this strategic direction we have gradually adjusted and phased out some unprofitable operation units in this segment. So, it is anticipated that the revenue from this segment will remain relatively flat in Q3 as compared to the same period of last year.

And in last year in Q3, learning services for college students and adults actually contributed to over 30% of our overall revenue, which has somewhat influenced our revenue growth rate for the third quarter of 2023. However, if we exclusively examine the income growth of the [K12] related business for the next coming quarter, it is feasible to achieve a fairly reasonable middle double-digit year-over-year growth. And secondly, during the summer we introduced some lower-priced courses to boost enrollment, especially in some entrance level of K12 students, which has also moderately influenced the revenue during the quarter. But this enrollments will contribute more revenue in the fourth quarter this year. So, and as for the whole year — yes, I think, I hope this address your question, Yiwen?

Yiwen Zhang: Yes, sure. That’s very clear. Thank you.

Shannon Shen: Thanks.

Operator: The next question comes from Crystal Lee with CMS. Please go ahead.

Crystal Lee: Thanks management and congratulations on a strong results. Could you give us some color on your enrollment growth during the summer season? And what’s your marketing strategy going forward? Thank you.

Shannon Shen: Thanks Crystal for your question. Yes. So, for the enrollment growth, based on the situation during the summer vacation we have indeed observed some different patterns compared to prior years. So, on one hand, there has been a concentrated search in students’ learning needs. And the overall timing in the summer has leaned towards consistency resulting in a tighter operational schedule, which is quite different from the vacations influenced by COVID. And on the other hand, this summer, parents has allocated a substantial amount of time for their children to travel and to go out. So this factor also led to a more concentrated study period. And based on these factors, like, we will be able to manage our organization to fit the parents’ demand and the student’s time schedule and be able to provide enough capacity to provide learning services they need.

But if we look at the summer vacation operations as a management team, we could always have done better. And this year, when we do some reflections, we always feel like there are a few aspects that we can improve in the future. For instance, we were a bit conservative in the early stage of the teacher recruitment. Facing the boosting demand in summer, early recruitment can reserve sufficient time for teachers to train up and therefore guarantee the service capacity and quality. So, maybe in the future, we intend to take a more proactive approach to the scalable recruitment and training of our teachers. And so, if we look at the bright side, we still see there is a huge potential in the education space for us to grow. So, in summary, the performance during the summer vacation is basically aligned with our expectations and we will be able to see the enrollment started to grow in a more scalable rate, and the performance is basically within our expectation.