Kuaishou: Can running-style cost reduction break stereotypes?

Hello everyone, I am Changqiao Dolphin!

After the Hong Kong stock market closed on March 29th, Beijing time, Kuaishou released its fourth quarter and full-year results for 2022. The key points are as follows:

1. Has Kuaishou made money? How to reduce losses and achieve profitability is currently the most concerning issue in the market, especially when Kuaishou's users and income have reached a significant level (short video penetration rate tends to approach saturation). Whether the platform's unique economy of scale advantage can be reflected or not, otherwise it cannot falsify the market bias that "Kuaishou platform has lower barriers to entry".

(1) The overall core main business of the fourth quarter (domestic + overseas) is still losing money, but the net loss after adjustment is only 45 million yuan, and the trend of reducing losses is evident. It is highly probable to achieve a profitable turn in the second quarter of this year except for the customer acquisition period in the first quarter, and the money saved primarily comes from optimizing operating expenses-reducing staff salary, reducing outsourcing, and moderating promotional costs.

(2) Of course, looking solely at the operating profit of domestic business, it has been profitable for a long time, and it is also expanding profits in the fourth quarter. However, overseas markets are still in the expansion and penetration stage, making it challenging to avoid losses during the investment period, with losses narrowing slightly compared to the previous quarter.

Recently, TikTok's performance overseas has been less than ideal, making the road for Chinese companies to go global more difficult. I wonder whether the management will reduce the investment in overseas markets? This may also help to speed up overall loss reduction rate.

2. The impact of Video Number's traffic? Not yet apparent: Kuaishou's user base continues to expand, and there is currently no significant competition impact observed from the trend. As of the end of last year, the platform's monthly active users (MAU) reached 640 million, a YoY increase of 11%.

User stickiness (DAU/MAU) has seasonally declined, but it has maintained a relatively high level of around 57%. Taking into account the new daily average duration (134 minutes/person), the overall user traffic (total daily average user duration) has expanded by 28% YoY under a high base, and the speed of traffic expansion is faster than that in the third quarter due to the World Cup, e-commerce festivals, and the opening up of new live scenes.

3. From entertainment to e-commerce attributes: In the past year's economic downturn, Kuaishou's e-commerce attributes have become increasingly prominent. In addition to live e-commerce, "e-commerce-containing" advertisements and paid broadcasts are also prevalent.

(1), Let's first take a look at the core artery of driving growth-e-commerce: Because third-party data disclosures are relatively high-frequency and the company fully communicates with the market, the high growth of live e-commerce (GMV growth rate of 30%) is basically in line with expectations and has also achieved the GMV target of 900 billion yuan for the year after mid-year adjustment. However, the expectations of some core investment banks may be higher, but overall it is not surprising.

Looking solely at the fourth quarter, the trading volume accelerated under the promotion atmosphere of the e-commerce festival, active buyers and sellers have increased, and the GMV of "Fast Brand" merchants has increased by more than 80% YoY during the 116 e-commerce festival. （2）E-commerce ads hold up the sky: Advertising is the pillar business of Kuaishou, but the growth in recent quarters is mainly driven by the internal circulation advertising related to e-commerce (the growth trend of e-commerce advertising and GMV is basically in sync). This also implies a short-term logic, as businesses have limited budgets in the fourth quarter and are more focused on achieving ultimate results, so information flow advertising in short videos is a relatively optimal choice.

In addition, according to an estimated 40% share of e-commerce advertising, the external circulation advertising is expected to continue to decline in single digits in the fourth quarter. Although affected by the overall environment, Kuaishou has not demonstrated the resilience under pressure of short video advantages compared to its peers' rapid recovery, which can be attributed to the relatively lack of recognition by some advertisers of Kuaishou's platform.

(3) Live streaming in reverse growth? Unable to distinguish between tipping and buying traffic: The business of paid live streaming services has also seen a stable increase beyond expectations, which is quite different from the tragic situation of traditional live streaming platforms such as Douyu and Huya, which have seen a sharp decline on a quarterly basis over the past year.

Kuaishou explains that this is due to the development of new content scenes such as real estate transactions and blue-collar recruitment, as well as optimization of algorithms. However, I think that the driving factor that supports the stable increase in revenue from paid live streaming services on the surface is the "tipping" list revenue that is actually being bought by businesses, and this is a business that essentially reflects e-commerce properties.

4. Although heavily losing money, Kuaishou is not short of funds: In the fourth quarter, the net cash flow from operating activities was nearly RMB 5 billion, which improved significantly compared to the previous quarter, and the improvement in operating performance was the main driving factor.

If the net cash flow from free cash flow is roughly estimated to be RMB 3.5 billion after deducting approximately RMB 1.5 billion used for purchasing equipment and intangible assets in the fourth quarter based on the cash flow from operating activities disclosed in the financial report, there will be an expansion compared to the third quarter.

As of the end of the fourth quarter, Kuaishou had cash and short-term deposits of RMB 21.5 billion, as well as nearly RMB 1.38 billion in short-term investments, approximately RMB 8 billion in long-term deposits, and virtually no loans or short-term and long-term debts on its balance sheet. Under the continuous improvement in the trend of operating losses for core businesses, Kuaishou is not short of money.

Dolphin's view

The fourth quarter report is a report card that can be deemed to slightly exceed expectations. However, objectively speaking, such performance seems to be not in line with the current low valuation.

We believe that the deviation is mainly due to some concerns or biases in the market regarding Kuaishou’s long-term growth (the commercialization ability of the public domain flow pool, speeding up the realization of profit return) and competition barriers (the impact of the video number competition). Of course, going deeper, at its core, it is still due to insufficient confidence in Kuaishou management's execution ability, after all, the core team has not experienced life-and-death situations that can prove their ability.

Responding to the competition of video number is an opportunity to prove oneself. Of course, in the short term, the fastest way to reverse biases is to provide guidance that greatly exceeds expectations and achieve performance, especially in external circulation advertising and profit targets. For example, even with the competition from short video platforms and much-reduced customer acquisition costs, the user ecosystem of Kuaishou has managed to maintain stability. (From this perspective, Q4 performance can be regarded as a good start, and we can continue to pay attention to the management team's outlook for this year.)

In the mid to long term, Douyin and short video platforms will still be the two unshakable leaders, so in the opinion of Dolphin, how Kuaishou can survive between these two dominant players will depend on the strategic execution of its management team and on maintaining a certain degree of differentiation within the platform. Although Kuaishou has made significant efforts to shed its initial label, having certain "labels" may, in fact, increase the platform's recognition and visibility in the gradually saturating short-video era, and may enable Kuaishou to go further.

Dolphin will promptly release the minutes of this conference call to the investment community. Interested parties may join the WeChat group by adding the WeChat ID “dolphinR123”.

Detailed interpretation of Q4 financial report

1. Continuous growth in ecosystem traffic

In Q4, Kuaishou's traffic continued to expand, with World Cup games and monthly active users (MAU) increasing to 640 million. According to the third-party data provided by Questmobile, both the main site and the lite version of Kuaishou had growth.

The platform's daily active users (DAU) reached 366 million, a year-on-year increase of 13%. Although the user stickiness ratio (DAU/MAU) declined seasonally to 57%, when compared with peers on social media, it remains at a relatively high level and is close to Kuaishou's mid-to-long-term goal of 60%.

In addition, the filling rate of short dramas and variety content and the richness of live streaming content (such as the World Cup, Kuaishou Job, Ideameet, and Jay Chou's online concert) have ensured that the user time length has reached an all-time high of 134 minutes per day. The overall rate of traffic expansion is calculated as (the growth rate of daily active users * the growth rate of average user time length per day) 28%, which has accelerated from Q3.

From the third-party data provided by Questmobile, the lite version app is still growing strongly, while the main site app maintains positive growth in traffic during the second half of the year. However, compared with its rival Douyin, Kuaishou's main site users have already shown signs of peaking. Therefore, we can only hope for the lite version, but its audience is lower-income users, and the cost of acquiring them is still relatively high, so it is necessary to further observe the retention situation and commercial value in the future.

2. Income: Advertising recovery, steady growth in live streaming and e-commerce

In Q4, Kwai's total revenue reached RMB 28.3 billion, a YoY growth of 15.8%, which exceeded the market's consensus expectations (~ RMB 27.27 billion). In the special macro environment of Q4, businesses were more inclined to pursue the ultimate marketing effect in the short term. Therefore, the short video native advertising, which was priced based on conversion rate, was more favored by businesses in the short term.

In addition to advertising revenue, live streaming revenue also showed a trend of counter-cyclical growth, especially when compared with traditional live streaming platforms, the company's advantages are even more obvious. The company explained that it was due to the richness of content scenarios and optimization of algorithms, but I think a relatively direct factor is that Kwai's live streaming is different from that of Douyin and Huya.

On the Kwai anchor's reward list, many of them are income streams created by merchants to display their brands or through mutual promotion between anchors, which is the nature of "reward for advertising".

The e-commerce business that has always shown high growth continued to maintain high growth. However, at present, the main contribution to revenue still comes from advertising and live broadcasting.

From the perspective of segmented business:

1. Advertising growth actually depends on e-commerce: It mainly reflects the effect of public domain traffic distribution. Generally, advertisers use magnetic gold bull to place ads. The monetization ability of advertising is mainly related to Kwai's ecological traffic expansion, advertising inventory release, and platform pricing.

Revenue in Q4 was RMB 15.094 billion, a YoY increase of 14%. Overall, the commercialization of the platform is highly related to traffic expansion.

Looking at it from a segmented perspective, internal circulation advertising, mainly composed of e-commerce advertising, is the main driving factor for revenue growth in the past few quarters. On the contrary, external circulation advertising is still in a headwind.

Currently, internal circulation advertising accounts for about 40% (Q3 conference call). If we break it down, I expect external circulation advertising to decrease by 5% YoY, slightly better than in Q3.

However, compared with peers, this performance is generally average, reflecting that some businesses still do not have a high degree of recognition of Kwai. In this year of economic recovery, after businesses have more comfortable budgets, more additional budgets will be allocated to brand advertising. However, this does not necessarily play to Kwai's advantage, and may result in external circulation advertising growth still lagging behind that of its peers. Currently, the core investment banks have relatively high expectations for Kuaishou's advertising in 2023, with expectations above 30%. It is unrealistic to rely solely on e-commerce advertising to drive growth, especially as the growth rate of e-commerce advertising will eventually approach that of GMV after passing through the low base period. 2023 is also a year of e-commerce competition, and achieving 30% growth on top of a GMV of 900 billion yuan is still challenging. Based on some research information, the company's internal target may not even be 30%. We suggest paying attention to the specific guidance from management during the conference call.

In terms of e-commerce, revenue was 3.16 billion yuan, a year-on-year increase of 33.7%, mainly driven by transaction volume. In the fourth quarter, the GMV of live e-commerce reached 312.4 billion yuan, a year-on-year increase of 30%. Commission rate remained at 1%, with a slight increase compared to last year.

I believe that in the fourth quarter with e-commerce festivals, and due to the high uncertainty of the economic environment caused by the national infection peak, there is a similar logic to the third quarter where merchants have the appeal to quickly deal with inventory backlog and will seek platforms that can quickly handle it. Kuaishou has both large-scale flow seeking cost-effectiveness and an ecology of KOLs promoting brands. Therefore, the conversion rate of discount goods on Kuaishou may be higher.

Thus, the goal of 900 billion yuan for the year 2022 has been basically achieved, and we should focus on management's outlook for this year.

On e-commerce, the main action in 2022 was the launch of the "Fast Brand" strategy, which supports self-owned brands of small and micro-businesses and guides "white label" products to evolve into "Fast Brands".

I think that "Fast Brand" is a differentiating competition of Kuaishou with Douyin's brand e-commerce under fierce attack, driven by promoting cost-effective e-commerce. After all, Kuaishou's user base is more skewed towards cities below the second and third tier, and the overall purchasing power is lower than that of Douyin. Large and medium-sized brands or high-end products of the same brand are more willing to promote and trade on Taobao and Douyin from the perspective of live broadcasting, but on Kuaishou, they may be more willing to collaborate with livestreaming celebrities. As live e-commerce and local life e-commerce continue to play crucial roles in Douyin's strategy, such differentiation may persist in the long run.

In terms of live streaming rewards, the income in the fourth quarter was 10 billion yuan, an absolute high, and a year-on-year increase of 13.7%. Compared to the third quarter, the growth rate only slightly slowed down. However, in the fourth quarter, due to the pressure of the macro environment, this optional consumption should be bleak. For example, the cases of Tencent Music, Douyu and Huya are proof of the headwind against live streaming scenes. This brings us back to the "ranking ads" phenomenon that Dolphin has mentioned many times on e-commerce platforms. Kuaishou's live streaming has surpassed traditional live streaming itself, and is about "surface rewards payment but actual marketing drainage" between small merchants and anchors. They use the popularity of e-commerce to make up for the decline of live streaming shows.

In the short and medium term, Kuaishou's actions to adjust the conversion between live streaming traffic and short video traffic are expected to promote the development of live streaming business better than the industry for a period of time. However, in terms of monetization, Magnetic Bull's pure advertising revenue is definitely more profitable than "live reward-style" marketing revenue that requires more than a 60% split for anchors.

Third, profits: layoffs + reduced outsourcing, accelerating efficiency.

Kuaishou's fourth-quarter loss reduction exceeded expectations, with a net loss of RMB 45 million after adjustment, a year-on-year decrease of 98%, almost breaking even. After crossing the high-investment acquisition period, it is expected to turn positive in the second quarter of this year (including overseas loss business).

However, equity incentives are also the main component of compensation and benefits for Internet employees, so Dolphin tends to add back the impact of equity incentives, and then look at the core operating profit situation of the main business after removing investment income, financial income and expenses, and other items.

The core business lost RMB 1.34 billion in the fourth quarter, and the amount of loss decreased by 80% year-on-year. The loss ratio was 4.7%, which is significantly improved compared with 13% in the third quarter.

In addition to the cost optimization brought about by bandwidth costs and server equipment depreciation period adjustments, the significant reduction in losses in the fourth quarter mainly comes from layoffs and outsourcing reductions.

1. The proportion of sharing has increased, and the gross margin has slightly decreased month-on-month.

In the fourth quarter, the overall revenue-sharing cost as a proportion of total revenue increased by 4 percentage points month-on-month. At the same time, due to the decrease in the proportion of bandwidth server costs, device depreciation and employee benefits, the overall gross margin decreased by nearly 1 percentage point from the third quarter.

Revenue sharing generally includes the sharing of live broadcast rewards for Kuaishou talents on the platform and the sharing of advertising orders for advertisers. Judging from the proportion of revenue sharing in the total revenue of live broadcasts and advertisements, it has increased from 35% to nearly 40% month-on-month. During the fourth quarter, the reason for the increase in revenue sharing rate is likely due to more live streaming guilds participating (speculated as the main cause). Furthermore, the private business orders received by live broadcasters during the e-commerce festival season are also expected to increase, thereby raising the overall revenue sharing rate.

Regarding expenses in the fourth quarter, cost optimization focused mainly on research and development, with a significant decrease in employee benefits and technology outsourcing expenses compared to the same period last year. Kuaishou's high customer acquisition costs have long been criticized by the market, and the decline in cost reduction slowed in the fourth quarter. However, the cost reduction efficiency brought by employee layoffs has maintained the promotion costs to be basically in line with last year and is related to the advance spending on the World Cup and Spring Festival.

"Kuaishou" Historical Research by Dolphin Research Institute:

"Financial Report Season"

November 23, 2022: Telephone Conference on "Kuaishou: Short-Term Advertising Weakness Repaired, Cost Reduction and Efficiency Increase Continued (3Q22 Conference Call)".

November 22, 2022: Financial Report Review on "Annual Revenue of Over 100 Billion, Profit Struggle, Can Kuaishou's Story Still Come to Fruition?"

August 23, 2022: Telephone Conference on "Businesses Benefit from the Pandemic, Post-Pandemic Brings Rational Consumer Dividends (Kuaishou Conference Call Summary)".

August 23, 2022: Financial Report Review on "First Impressions of Profit, Kuaishou is Accelerating its Road to Monetization Expectations".

May 24, 2022: Telephone Conference on "First-quarter results have already reflected some effects of the pandemic (Kuaishou Conference Call Summary)".

May 24, 2022: Financial Report Review on "Going Against the Tide, Kuaishou Delivers a 'Precise' Submission".

March 30, 2022: Telephone Conference on "In addition to cost reduction and efficiency increase, Kuaishou also has the ambition to 'support many industries' (Conference Call Summary)". channel=t2211658&invite-code=FRQWBJ)》

2022 March 29 financial report review "Kuaishou: The Era of Getting Rich Is Counting Down with Laotie Economy"

November 23, 2021 conference call "What changes have the management made behind the improvement of the financial report margin? (Kuaishou Conference Call Minutes](https://longbridgeapp.com/topics/1369818?invite-code=032064)"

November 23, 2021 financial report review "Kuaishou: The Change in Personnel Brings a Different Company"

August 26, 2021 conference call "Kuaishou: The Future Focuses on Converting More Public Traffic to Private Traffic (Conference Call Minutes](https://longbridgeapp.com/topics/1080810?invite-code=032064)"

August 25, 2021 financial report review "Kuaishou: A Long-term Investment by No.2 in the Industry"

May 25, 2021 financial report review "Kuaishou: How Long Can the Strategy of Buying Traffic with Money Last？| Dolphin Investment Research"

May 24, 2021 conference call "Kuaishou Q1 Earnings Call Q&A(https://longbridgeapp.com/topics/827214?invite-code=032064)"

March 23, 2021 financial report review "Kuaishou's "1166 Billion" Has become the Question I'm Asked the Most"

January 19, 2021 financial report review “Dolphin Investment Research| Q3 Results Released, Kuaishou with $50 Billion Market Cap, How Good is it?"

In-depth

February 24, 2021 "Kuaishou has a lot of criticisms, where does its value come from?" On January 26th, 2021, "Dolphin Investment Research | The Underrated Iron Ore Economy, Kuaishou's One Trillion Market Cap is Foreseeable" and on January 15th, 2021, "Dolphin Investment Research | Does Kuaishou Have Original Sin?".

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