Xiaomi management discusses the sources of gross margin improvement (3Q23 conference call minutes)

Xiaomi Group (1810.HK) released its third-quarter earnings report for 2023 (ending in September 2023) after the Hong Kong stock market closed on the evening of November 20, 2023. The key points of the conference call are as follows:

1. Incremental information from the Xiaomi conference call:

1) Internet business in overseas markets: Mainly benefited from the increase in mobile phone users and improved user engagement.

2) Main reasons for the increase in gross profit margin in the third quarter: optimization of the supply chain and cost reduction. Factors such as product structure optimization and lower procurement costs also had a positive impact on the gross profit margin.

3) Impact of inventory impairment on Xiaomi's gross profit margin this year: Approximately 0.8 percentage points.

2. $XIAOMI-W(01810.HK) conference call transcript:

2.1 Management's speech

In the third quarter of 2023, Xiaomi Group's total revenue reached RMB 70.9 billion, with adjusted net profit of RMB 6 billion, including RMB 1.7 billion in expenses for innovative businesses such as smart electric vehicles. Xiaomi Group's revenue from the smartphone business was RMB 41.6 billion, with a global smartphone shipment volume of 41.8 million units and a global smartphone ASP of RMB 997.

Business overview

1) Smartphone business

In the third quarter of 2023, revenue from the smartphone business reached RMB 41.6 billion, a year-on-year decrease of 2%. The smartphone shipment volume was 41.8 million units, a year-on-year increase of 4%.

According to Canalys data, Xiaomi ranked third in global smartphone shipments in the third quarter of 2023, with a market share of 14.1%, a year-on-year increase of 0.5 percentage points.

In this quarter, Xiaomi's global smartphone ASP reached RMB 997, a year-on-year decrease of 5.8%.

In the third quarter of 2023, Xiaomi achieved MoM growth in smartphone market share in all major markets, with market shares of 23.3%/18.3%/10.7%/17.7% in Europe/Latin America/Africa/Middle East.

2) Internet services business

Revenue from internet services reached RMB 7.8 billion, a year-on-year increase of 9.7%.

User growth and ARPU value: As of September 2023, the global monthly active users of MIUI reached 623.1 million, a year-on-year increase of 10.5%. Among them, the monthly active users of MIUI in mainland China reached 151.9 million, a year-on-year increase of 7.4%. In September 2023, Xiaomi's global monthly active users of smart TVs exceeded 64 million. Advertising revenue reached RMB 5.4 billion, a YoY growth of 15.7%, setting a new record high. With the continuous refinement of operations and technological innovation, as well as the growth of the high-end smartphone user base, both domestic and overseas effect and brand advertising revenue achieved YoY growth this quarter.

Gaming revenue reached RMB 1.1 billion, a YoY growth of 5.6%, marking the ninth consecutive quarter of YoY improvement. This is attributed to flexible and diverse new user operation strategies and continuous operational strategy innovation.

Overseas internet business revenue reached RMB 2.3 billion, a YoY growth of 35.8%, reaching a historical high. Overseas internet service revenue accounted for 30.0% of the overall internet service revenue, an increase of 5.8 percentage points YoY.

3) IoT and Consumer Products

In Q3 2023, IoT and consumer product revenue reached RMB 20.7 billion, a YoY growth of 8.5%, with a gross margin of 17.8%, a YoY increase of 4.3 percentage points, setting a new record high.

As of September 30, 2023, the number of IoT devices connected to Xiaomi's AIoT platform (excluding smartphones, tablets, and laptops) reached 698.9 million, a YoY growth of 25.2%. The number of users with five or more devices connected to Xiaomi's AIoT platform (excluding smartphones, tablets, and laptops) reached 13.7 million, a YoY growth of 26.0%. In September 2023, the monthly active users of the Mi Home app increased by 16.0% YoY to 84.0 million.

According to AVC Cloud, in Q3 2023, Xiaomi TV maintained its position as the top-selling TV in mainland China.

Despite market pressure, Xiaomi's air conditioner and washing machine shipments achieved growth against the trend this quarter. Xiaomi's air conditioner shipments in the first three quarters of 2023 have already exceeded the full-year level of 2022. Meanwhile, in Q3 2023, Xiaomi's refrigerator shipments surged by over 95% YoY.

In Q3 2023, according to Canalys data, Xiaomi's global tablet shipments grew by 120% YoY, entering the global top five for the first time. At the same time, Xiaomi ranked third in tablet shipments in mainland China this quarter. According to Canalys data, Xiaomi ranked second in TWS earphone shipments in mainland China this quarter.

Profit Margin Overview

In Q3 2023, gross profit increased by 37.4% from RMB 11.7 billion in Q3 2022 to RMB 16.1 billion in Q3 2023. Gross profit margin increased from 16.6% in Q3 2022 to 22.7% in Q3 2023.

The gross profit margin of the smartphone segment increased from 8.9% in Q3 2022 to 16.6% in Q3 2023, mainly due to product portfolio upgrades, reduced provision for inventory impairment in overseas markets, and lower prices of core components. IoT and Consumer Products Division: The gross profit margin increased from 13.5% in the third quarter of 2022 to 17.8% in the third quarter of 2023, mainly due to strong growth in tablet and several high-margin consumer products in mainland China.

Internet Services Division: The gross profit margin increased from 72.1% in the third quarter of 2022 to 74.4% in the third quarter of 2023, mainly due to an increase in the proportion of advertising revenue.

Expense Ratio:

Research and development expenses increased by 22.0% from RMB 4.1 billion in the third quarter of 2022 to RMB 5.0 billion in the third quarter of 2023, mainly due to increased R&D expenses related to smart electric vehicle business and other innovative businesses.

Sales and marketing expenses decreased by 3.0% from RMB 4.9 billion in the third quarter of 2022 to RMB 4.7 billion in the third quarter of 2023, mainly due to a reduction in packaging and transportation expenses in overseas markets, partially offset by an increase in advertising expenses in overseas markets.

Advertising expenses increased by 24.4% from RMB 1.4 billion in the third quarter of 2022 to RMB 1.8 billion in the third quarter of 2023, mainly due to increased promotional expenses in overseas markets.

4) Administrative expenses increased by 8.8% from RMB 1.3 billion in the third quarter of 2022 to RMB 1.4 billion in the third quarter of 2023, mainly due to an increase in salaries and professional service fees for administrative personnel.

Adjusted Net Profit:

Adjusted net profit increased by 182.9% from RMB 2.1 billion in the third quarter of 2022 to RMB 6.0 billion in the third quarter of 2023.

2.2 Q&A

Q1: In which regions has Xiaomi achieved a good market share in overseas markets?

A1: Xiaomi has achieved a good market share in Europe, India, Latin America, and other regions. In some markets, Xiaomi's market share has reached 30-40%. Although the market share is relatively low in some markets, there is still room for further development. The company believes that both the smartphone and IoT businesses have significant growth potential, especially in the IoT business, which has at least 5 times the growth potential.

Q2: What specific efforts has Xiaomi made to expand its presence in overseas markets?

A2: Xiaomi has continuously expanded its presence in overseas markets over the past few years. Currently, Xiaomi has entered more than 100 countries, covering over 30 countries. In the process of deepening its overseas business, Xiaomi focuses on building a secure and efficient platform and is committed to training and developing talents to achieve its global mission and strategy.

Q3: What achievements has Xiaomi made in overseas markets amid the impact of the pandemic? A3: Despite the adverse impact of the epidemic on the economy and industry, Xiaomi continues to expand its market share. In the third quarter of this year, Xiaomi's market share doubled compared to the same period last year. In the Latin American market, Xiaomi achieved a 40% YoY growth; in the European market, its market share reached 23.3% in the previous quarter; in the Indian market, Xiaomi experienced a good rebound. Xiaomi has achieved good growth in various regions around the world, including Southeast Asia.

Q4: What achievements has Xiaomi made in the development of the Internet in overseas markets?

A4: Xiaomi's development of the Internet in overseas markets has mainly benefited from the increase in smartphone users and the improvement in user activity. Xiaomi's user data has reached about 300 million and the user base is continuously growing. In addition, Xiaomi has expanded the influence of its Internet platform globally by introducing new partners and providing more products and services. Therefore, Internet revenue will continue to grow.

Q5: What are the main factors that contributed to the increase in the company's gross profit margin in the third quarter, including the impact of product structure and inventory turnover?

A5: The main reason for the increase in gross profit margin in the third quarter is the optimization of the supply chain and cost reduction. Factors such as product structure optimization and lower procurement costs also have a positive impact on the gross profit margin.

Q6: What are Xiaomi's new plans in the field of green hardware?

A6: Xiaomi has a new foundation in green hardware, and specific details can be found on the website of the Ministry of Industry and Information Technology. In Xiaomi's ecological strategy, cloud-based electromechanical technology related to cars is very important. In the future, purchasing Xiaomi products will no longer be just buying a single commodity, but a solution to a lifestyle.

Q7: How does Xiaomi balance scale and profit in its business strategy?

A7: Scale and profit are mutually reinforcing, and the company achieves synergistic development by finding the optimal balance point. In the past five years, Xiaomi has found a precise business strategy and will continue to adhere to this direction.

Q8: How does Xiaomi deal with the impact of external environmental changes on its operations?

A8: The management has confidence in dealing with the uncertainty of the external environment and believes in its own energy and capabilities to cope with the challenges brought by uncertainty. Xiaomi will continue to maintain its operating system and seek better balance.

Q9: What are Xiaomi's plans in the automotive field? How will it integrate with consumer electronics products such as smartphones?

A9: The company believes that the integration of smart electric vehicles and consumer electronics will create a chemical reaction and produce good results. Xiaomi's cars are closely linked to existing consumer electronics products and will generate more interaction in terms of user experience in the future.

Q10: How much does the inventory impairment affect Xiaomi's gross profit margin this year? Additionally, how does the decrease in raw material prices affect Xiaomi?

A10: The impact of inventory impairment on Xiaomi's gross profit margin is approximately 0.8 percentage points. The decrease in raw material prices is one of the reasons.

Q11: What is Xiaomi's market space in the high-end product segment? How do consumers prefer high-end and mid-range products? A11: Xiaomi has a significant market space in the high-end product field. Consumers have demand for both high-end and mid-range products, and Xiaomi can find a balance between these two markets.

Q12: What are the prospects for Xiaomi Group's scale and financial results in the future regarding its high-end strategy?

A12: Although the difference in gross profit margin between Xiaomi's high-end and low-end markets is currently small, there is still optimism about the future high-end market space. Compared to global smartphone giants Apple and Samsung, Xiaomi still has room to grow in the high-end market. While financial results will take time, Xiaomi is confident in exploring its potential.

Q13: What are the future development directions for Xiaomi Group's internet and advertising businesses?

A13: Xiaomi's internet business has shown good momentum in advertising, achieving a historical high in advertising revenue. In the future, Xiaomi will focus on the development of both local and overall training directions, while also emphasizing the continuous growth of the advertising business.

Q14: How will the company's new retail strategy promote the development of high-end smartphones, the "Smart Living" project, and the overall ecosystem?

A14: Xiaomi's new retail strategy plays an important role in promoting the development of high-end smartphones, the "Smart Living" project, and the overall ecosystem. Xiaomi will further drive the high-end smartphone market and incorporate future automotive channel planning into the overall new retail strategy. Xiaomi believes that by integrating various strategies, a complete ecosystem can be formed to further enhance Xiaomi's value and competitiveness.

Q15: What is the proportion of smartphone sales in offline stores and the growth of GMV? How will advertising revenue be increased in the future?

A15: According to data, in the third quarter, the proportion of Xiaomi Group's smartphone sales in offline stores reached a new high of 55.5%. At the same time, the GMV of single stores in Q3 increased by over 28% YoY, indicating significant growth in sales under the drive of high-end smartphones. In the future, we believe that as our market share in the high-end smartphone market increases, sales volume will also grow, leading to an increase in advertising revenue. We are also constantly exploring ways to improve operational capabilities, including enhancing user monetization and tenant monetization, which is part of our future plans.

Q16: How will integration be achieved in terms of customer base and products, and further meet the needs of different customer groups?

A16: From the perspective of smartphones, we have not yet completed the entire brand touchpoint process, and market interactions have not reached an ideal state. In the Chinese market, our market share this year is between 15% and 20%, and the market landscape will change, which means there may be platforms exiting. In the future, no smartphone brand will only serve one customer group, but will target the entire population and all channels. We will meet the needs of different customer groups through product series, classify user emotions, and use smartphones as a leading brand to communicate product experiences and solutions. The underlying support for this is the operating system of human resources, which is a development logic. This is our product planning and strategic posture, and we are very clear about it. Q17: How will the business landscape of the PC market change in the future? What is Xiaomi's strategy in the PC business?

A17: Looking at the industry benchmarks such as smartphones, wearable devices, and tablets, they have formed a very good overall ecosystem within the larger operating system, which has been quite successful in the industry. However, within the Windows system, we have found that Xiaomi and other manufacturers need to bridge the gap between the Android and Windows systems to enhance the user experience. In this process, we have considered several methods, including collaborating with major internet companies to create an interconnected platform that breaks the traditional siloed approach by connecting different devices. We are paying close attention to this and personally have a positive outlook on this direction.

Q18: In your opinion, which products are indispensable for Xiaomi? Why?

A18: In my opinion, for Xiaomi's ecosystem, I believe that every product is indispensable. We insist on developing the laptop business because we believe that PC terminals are crucial in the entire ecosystem. In addition to this, our smartphones, wearable devices, and smart TVs have also made significant progress, and we will continue to strive for excellence on each platform. This will enable interconnectivity between different platforms and drive the development of the entire ecosystem.

Q19: What are the important new product releases in Xiaomi's future plans?

A19: We will have new product releases in the near future, especially in the tablet and laptop fields where we have made rapid progress. We have already surpassed our competitors in the Chinese market, and we plan to achieve the same success globally. In addition to this, we will also focus on areas such as large-screen TVs, public transportation signage, and the home ecosystem, striving to excel in every product to meet the diverse needs of our users.

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