Good evening, ladies and gentlemen. Welcome to NetDragon's third quarter 2014 financial results conference call. At this time, all participants are in listen-only mode. The company's results were released earlier today and are available on the company's investor relations website at www.netdragon.com. Joining us today are Mr. Ben Yam, Chief Financial Officer, and Ms. Maggie Zhou, Senior Director of Investor Relations. Ms. Zhou will discuss NetDragon's business operations and company highlights, followed by Mr. Yam, who will go through the financials. They will both be available to answer your questions during the Q&A section that follows. A webcast replay of the conference call will be available on NetDragon's investor relations website following the conclusion of this call.
Before the presentation, I would like to remind you all that this call will contain forward-looking statements, which may include inherent risks and uncertainties, that the company may not be able to fulfill due to various possibilities. Non-GAAP data is included as part of this presentation. Non-GAAP data is not expressly permitted by the Hong Kong Financial Reporting Standards and therefore may not be comparable with other similar indicators. For more details on the Non-GAAP financial measures, please refer to the disclosed documents on the company IR website. It is now my pleasure to introduce Maggie, Senior Director of Investor Relations. Maggie, please go ahead.
Thank you. Good evening to everyone, and thank you for joining us today for NetDragon's third quarter 2014 earnings conference call. We are pleased to report another solid quarter as we gain growth momentum and build upon our success over the past few quarters in our MMORPG, mobile games, and online education businesses. Our portfolio and top line of MMORPG games continued to expand and diversify as we developed new games and released expansion packs to rejuvenate existing titles. Expansion packs for "Zero Online" and "Way of the Five" were launched during the quarter, while we continued to move forward with development of expansion packs for other legacy games, including "Eudemons Online" and "Conquer Online".
We also concluded an agreement with Valve to make the English versions of our new 3D strategy MMO games, "Tiger Knight", available on Steam in the near future, once open beta testing is completed early next year. The hype surrounding "Calibur of Spirit" continued to grow after it was selected for the World Cyber Arena, or WCA, which was held in Yinchuan, China, in October 2014. "Calibur of Spirit" was the only China-developed competitive game selected for the tournament. Equally as important, the game's selection marked NetDragon's first game entered into the WCA, a feat that we are very proud of. "Calibur of Spirit" has already been able to achieve PCU of 170,000, MAU of 4 million, DAU of 1 million during the third quarter, and over CNY 10 million in monthly gross revenue generated in October 2014.
With marketing and promotional activities ramping up, we are confident the revenue of this flagship game will accelerate in 2015. We continued to push forward our mobile games business, with revenue increasing by 43.8% sequentially as we take advantage of the rapid shift towards mobile globally. In September, we launched the Android version of "Eudemons Online" pocket version to great reviews with very encouraging operating metrics. We signed an exclusive licensing agreement for "Blade & Sword" with one of China's leading mobile game publishers during this quarter and launched the Arabic version of "The Pirate," which generated record high monthly revenue. We are leveraging our unique mobile internet expertise to grow our education business, which continue to show great potential given the strong progress we are making in both hardware, software, and social networking components of our online education ecosystem product.
We just concluded the Strait Wisdom Education Forum and the Education Informatization Technology Conference, which we jointly organized with East China Normal University to focus on developing educational tools for the digital age. As the host of this conference, we believe our leading position in online education space and our influence in the market are widely recognized. We are developing relationships with multiple educational institutions in China as part of our broader strategy to participate in the formulation of educational standards. Earlier this year, we entered into a strategic cooperation framework agreement with Beijing Normal University to commit to joint development of new educational content and technologies. After further discussions and mutual exploration, we expect to jointly focus in the following areas with Beijing Normal University. First, interactive classroom product. Second, mobile training product for teachers. Third, digital education content.
The fourth, general research and development of online education products. We believe that by joining hands with top-ranked education universities, their education resources and the know-how will complement our mobile internet expertise, and will make our solution a unique offering, which provide not just excellent user experience, but also true creation of educational value for our users. To conclude, our business made solid progress during this quarter, which I believe is a direct result of our strategic focus. We look forward to realizing more hit games and developing deeper relationships with our educational partners as part of our goal to create sustainable and long-term growth for our shareholders. With this, I will now turn the call over to Ben, who will go over the financials for this quarter.
Thank you, Maggie. Before I go into the details, please be noted that the same classification our financial statements was used in Q3. The continuing operations here represented predominantly our game business, and the figures for the previous year were restated for comparison. Let's talk about the financials for the third quarter. Revenue was CNY 232.7 million, up 1.1% quarter-over-quarter, and 6.1% year-over-year. Revenue from online games was CNY 211.1 million, down 4.8% quarter-over-quarter, and 0.2% year-over-year. The drop was mainly due to seasonality, where the third quarter is typically a slow season for traditional online gaming. Given the known effect of seasonality, we slowed the rollout of content updates in Q3 and focused on the development of updated game versions and expansion packs to be released in Q4.
ACU for online games reached 225,000, a decrease of 5.9% quarter-over-quarter and 16.7% year-over-year. PCU for online games was 382,000, a decrease of 18.9% quarter-over-quarter and 25.1% year-over-year. The drop in PCU and ACU was mainly due to the effect of seasonality and the campaign we launched against hacking and cheating, which resulted in user data fluctuations. Please be noted that the ACU and PCU data above did not include our new micro client game, Calibur of Spirit, which is more of a web game by nature, and whose performance is typically measured by MAU and DAU. As Maggie mentioned earlier, Calibur of Spirit has already been able to achieve a PCU of 170,000, MAU of 4 million, and DAU of 1 million in the third quarter. Our monthly gross revenue for this game has already exceeded CNY 10 million.
Revenue from online games and other businesses generated from overseas market was CNY 36.8 million, up 38.3% quarter-over-quarter and 51.4% year-over-year. The sequential and year-over-year increases were mainly due to revenue contribution from Cherrypicks mobile solutions business, which we acquired during the third quarter in 2014. Revenue from mobile games were CNY 9.3 million, up 43.8% quarter-over-quarter and up 95.1% year-over-year. Gross profit from continuing operations CNY 209.2 million, up 0.4% quarter-over-quarter and 4.8% year-over-year. Gross profit margin from continuing operations was 89.9%, compared with 90.5% in the previous quarter. Operating profit from continuing operations was CNY 57.7 million, down 24.1% quarter-over-quarter and up 15.8% year-over-year.
The decrease was mainly due to the increase of advertising and promotion expenses for games such as Calibur of Spirit, and the increase in staff cost as we hire more staff to move forward with the development of our business, in particular, our education business. These two factors were partially offset by the decrease in other expenses as a one-time donation to Beijing Normal University in support of their R&D in Q2. Profit for the period from continuing operations was CNY 52.6 million, down 17.5% quarter-over-quarter and up 42.4% year-over-year. Basic and diluted EPS were CNY 0.1031 and CNY 0.1027 respectively.
Cash bank balance, bank deposit, and liquid investments stood at CNY 3.4 billion as of September 30th, 2014. Liquid investments are comprised of predominantly highly liquid fixed income investments, which are used to enhance the company's overall strong cash position. Operator, we are now ready for questions. Thank you.
Thank you for the presentation. Now, we will enter into the Q&A session. Please feel free to raise any questions. If you wish to ask a question, please press star one on your telephone and wait for your name to be announced. If you wish to cancel a request, please press the pound or hash key. Your first question comes from the line of Jeff Hao from China Merchants Securities. Please ask your question.
Hi. Thank you for taking my question. I have two questions. The first is about your revenue breakdown. Can you further break down your revenue between PC game and mobile game? Within the PC game, how many revenues are from web game and how many are from client-based game? I have a follow-up. Thank you.
Thank you, Jeff, for your question. In this quarter, we have about CNY 10 million-CNY 11 million of revenue from Cherrypicks. If you exclude that figure, then the remaining revenue is mainly gaming revenue. Out of that gaming revenue, roughly about 4%-5% of that is mobile gaming. The remaining would be online and web game. Right now, our only micro client game, or if you like to define as web game, is Calibur of Spirit. As we mentioned, our gross revenue from Calibur of Spirit has exceeded CNY 10 million recently on a monthly basis. We are not in a position to disclose the detailed breakdown of each game at this moment.
Okay. Maybe one more follow-up about mobile game. Can you talk about your pipeline in the fourth quarter and maybe next year? What is the stage of your Eudemons mobile version game at this moment?
Okay. In terms of the pipeline of our mobile games, next year, we are planning to launch three to five mobile games on a conservative basis. It could be three to six mobile games, depending on how you define new mobile games. Eudemons Online mobile version has been officially launched, has been launched in Q4. Right now, we haven't done a lot of marketing and promotion at the moment because we wanted to ramp up the game gradually as we fine-tune the game. Right now, I guess all we can say is that we are receiving very encouraging performance metrics for this game. So we do expect that this game will ramp up in 2015 and contribute meaningful revenue.
Okay. My second question is, can you give us some brief outlook for next year in terms of revenue trend and margin trend? Especially, can you talk a little bit more about the contribution from your education business in terms of revenue and regarding the expense you're going to spend on the education business? Are we expecting a significantly lower margin next year? Thank you.
Okay. Jeff, I think if you look at the big picture of next year, I think you can divide it into. First of all, we have a very stable online gaming business with major revenue coming from our flagship games such as Eudemons Online and Conquer Online. So those, I think, we can rely on a very stable trend for those kind of long-lasting flagship legacy games. So that will be one major revenue source, and then which we can count on as being quite stable for next year. Then we have new games coming up, obviously mobile game. If we can come up with a hit game, one or two hit games in mobile game, that will provide tremendous upside.
I think if you look at Calibur of Spirit, which we recently exceeded CNY 10 million gross revenue on a monthly basis, and that is achieved before we commenced open beta launch, which is going to be scheduled for early next year, likely in January. After the open beta launch, with Tencent putting in tripling or quadrupling their promotional efforts after the exclusive publishing agreement is signed, we are confident that, and it's safe to say that, revenue for Calibur of Spirit is going to ramp up significantly from the current level. We do expect that there's going to be a significant ramp-up in our online gaming revenue coming from Calibur of Spirit. That will be one major revenue and profit growth driver from the gaming side.
On the education side, our product, we're starting to generate some revenue for our education product, but right now we're doing pilot launch. It's not real revenue per se. I mean, it is real revenue, but it's pilot revenue. Commercial revenue or commercial launch of our education product is scheduled to be in Q3 of next year. Starting in Q3, we expect to have substantial revenue coming in from education. But as you know, for B2C product or B2G product like education, there's going to be a ramp-up period as well. In the meantime, our cost base will increase because we are continuing to hire more people, more developers to strengthen our development efforts. Also, just given the sheer size of our education project, we need a lot of people to join the company. This year, we're going to have over 1,000 new recruits.
Next year, I think it would be safe to say that our new employees, in terms of headcount increase, will be around the same magnitude compared to this year. I think we can expect that the headcount or the staff cost will continue to increase next year. But then the increase of staff cost, I believe, will be offset partially at least by the increase in revenue from Calibur of Spirit. As you know, I think overall the company is in a very strong cash flow position, in terms of the cash balance and also in terms of the operating cash flow itself. As we develop the online education business, we do expect that there's going to be some investments that needed to be put in to the business in order to build a great product and sell the product in the years to come.
Okay. Thank you, Ben. I will get back to the queue. Thank you.
Thank you. Once again, if you wish to ask a question, please press star one on your telephone and wait for your name to be announced. You have a follow-up question coming from the line of Jeff Hao from China Merchants Securities. Please ask your question.
Hi, Ben. Just two more follow-up questions. First is regarding the education business. In terms of government policy, have you seen any policy barriers or policy bonus from government side on your education business? That's my first question.
Okay. Well, I guess, in the third quarter, we haven't seen any particular barrier from a government policy standpoint. I think what we can say is, if you look at this year, 2014, we do see an increasing motivation from the education authorities at the provincial level or at the local level to work with companies like us. Basically, the idea is that, I think in China, the online education initiative is a very top-down initiative. Right now, in China, there's very specific KPI for different provincial educational authorities where they have to meet various metrics when it comes to digitization of contents or digitization of the classroom, and also communications tool as well. I think that trend is very much in our favor.
It is also very interesting in the sense that, when we talk to educational authorities, very often we are the only Tier 1 mobile internet company that is talking to them. Of course, there's a lot of startups, a lot of conventional education companies that are trying to break into the space. But our edge here is we're coming in from a mobile internet angle. Coming in with the ability to have a user experience that is going to be second to none compared to conventional education companies. Overall, I think we're seeing very encouraging signs from the government or from the authorities that classrooms of- basically, the schools in China, a lot of them are very motivated to move into online mobile space.
Okay, thank you. My next question is about M&A. Have you done any M&As during this third quarter? What is your plan in terms of M&A? For example, what kind of target are you looking for right now? Thank you.
Okay. The only major M&A that we completed is buying a company called Cherrypicks, which we made the announcement earlier. We finally closed the deal in Q3. We are in the process of integrating the company, integrating the team, and the technologies, and even some of its clients as well.
That is the M&A for Q3. Going forward, I would say that we are actively exploring potential M&A opportunities, both in China and also in the overseas market. When it comes to M&A, it's hard to promise anything because we're not operating a fund. We are operating a company, and we need to make sure that the companies that we acquire or invest in have strategic value. But we do have a team. We do have an M&A team here, that is working on it on a full-time basis, looking for deals and looking for interesting companies that we can partner with and potentially invest or acquire. I would say that, yes, this is an area that we are actively looking.
But, I guess, as a strategic acquirer, the pace of investing in acquiring companies is often not as fast as if you are operating a VC fund. But we are being very diligent and also somewhat conservative in this area. But we hope to be able to acquire some good companies in the future.
Okay. I have a follow-up, sorry. In terms of education business, have you partnered with other internet company other than Foxconn to develop your education business?
We are talking to a lot of partners, including both conventional education companies, and also some internet companies. But right now, we do not have anything signed. Just from a pure answering your question point of view-
Yeah.
I don't have anything to disclose at the moment in terms of signed cooperation with internet companies. But we are actively discussing with various parties.
So in terms of partnership, are you looking for other partners in other areas, such as education institutions, or some content providers other than your current partnership with Foxconn?
Yes. In terms of partners, I think there are a few categories of partners. The easy one would be the content partner, right? Because we're not a content company, so we need to work with content partners, including publishers, including content companies or even media companies that will be able to give us contents where we can leverage the content into our education solution. That would be one category. Then the other category would be the so-called pedagogical instructional approach, right? Essentially, this type of partner will be essentially leveraging their research in pedagogy in how to teach students and kids effectively, if you will, to be able to. At the end of the day, right?
We're not blindly following research in this area, but we wanted to be able to understand all the pedagogies out there and integrate them into something that we feel that would be a fit to students in China, from a user experience and motivational standpoint. So that would be a pedagogical partner. Then, another type of partner would be channel partners, right? Essentially, getting our products out in the market. That would be one. Then the final, last but not least, final category would be technology partners. In terms of the scale of the education project we're working on, there's always going to be technologies out there which we don't have, and which will be good to have. So, in that sense, we will either work with these companies as a partner from a licensing standpoint, or we just simply acquire the company.
I think, part of education, I think, in general, it's separated into those categories.
Okay. Just a final question about your expense regarding the education business. Because I saw on the open media that you're going to spend about CNY 300 million , investment in the education business. Are we looking for this kind of expense next year or over maybe next two or three years?
I think we can look at it from a two- to three-year time spend. We would be looking to spend on a conservative basis, roughly about CNY 300 million-CNY 500 million of money in the content space. When I talk about just buying contents, we are not just talking about buying contents from third parties. Because at the end of the day, we have to be able to source good contents. If we do not have any good contents from outside parties, we would just be creating these contents ourselves or we outsource to certain third parties to create it for us. I think this amount of money is not just for simply buying contents out there. It also includes creating the contents either from outsourcing or from using our own headcounts. There is going to be some crossover into the staff cost.
Okay. So it will include, for example, marketing expense as well?
No, I do not think it would include marketing expenses. I think marketing expenses is more sales and marketing or promotional expense, but it would basically be money used to get contents for us. Getting contents would be by means of developing the content ourselves, using our own headcounts or outsourcing the contents out to content companies or buying or licensing the contents from publishers or content companies or media companies or agents, for example.
Okay. That is all for now. It is very helpful. Thank you, Ben.
Thank you, Jeff.
Thank you. Your next question comes from the line of [Simon Choi ] from First Shanghai Securities. Please ask your question.
Hello, Ben. Hello?
Hi, Simon.
Hello. Hello, Ben.
Yes.
I'm a little bit late for the conference. I hope I won't miss anything about this conference. I just got two questions. The first one is about our educational pad, the hardware product. I wonder when we are going to launch the product to the market. The second one, my question is regarding the Hong Kong market. I remember that the last conference, you mentioned that the Hong Kong market should be a very potential market for the hardware products, the tablet. I wonder, what's the development, the situation of this target, this project? That's all my questions.
Okay. Thank you, Simon.
Thanks, Ben.
Yeah. Thank you, Simon, for the questions. Regarding your first question, the educational pad. We started the pilot launch of our educational pad during Q3, and we are starting to generate some revenue. I must say that this is a small-scale pilot, so we are not selling the pad to hundreds of schools yet. This is a way for us to test out the pad, test out the software, get some data from the schools and from the students. The pilot has been going on for a while, but in terms of the formal official market launch of the tablet, we are expecting this to happen in the second half of next year. More likely going to be in Q3 of next year. That would be our current timetable at the moment. Regarding your second question on the Hong Kong market.
Yes, we are targeting the Hong Kong market, and we have a team in Hong Kong that is preparing to market the tablet into the Hong Kong market. What we see in the Hong Kong market is this. Hong Kong, obviously, is not as big as China, but I think it is very strategic in a sense that Hong Kong is, in terms of the nature of the students, the operation of the schools, the demographics, more similar to the Western countries than China, obviously. When I say Hong Kong is strategic, I am referring to first, if we can get a product into the market in Hong Kong, it is a brand building thing when it comes to China market, because China often looks to Hong Kong, right, when it comes to education. That is one thing.
The other thing is we are also using Hong Kong as a testing ground to build for our products to eventually penetrate into the global market. Essentially, we are not just looking at the China market or the greater China market for our product. We are looking to target global over the mid to long term, in particular, the U.S. market. The U.S. market right now is very dynamic, and right now it is lacking leadership in a way. If you go to the schools in the U.S., there is also tremendous opportunities, we believe, for our products. I think Hong Kong is strategic also in a sense of as a gateway for us to get into the global market.
Okay. Can I have a following questions?
Sure.
Hello, Ben? Yeah. I just wonder, can you share some developments of your educational pad or the other educational platforms in the second half of this year? Why the amounts of investments in this area in the next year? Can you share some information with us?
Okay. Sure. Basically, we're working diligently to develop several components of the product. The product ultimately is going to be, we would envision this product as an online educational ecosystem, which is going to be comprised of a combination of software, hardware, contents, and social networking. Obviously, we're going to have big data, and we're going to have cloud on this platform. When it comes to the progress, we're working on it. It's hard for us to really go into the details of our development and our internal milestones, but I can share a little bit of data here. We have developed over 30 applications in terms of the software, over 30 apps, including browsers, including camera modules.
We are also in the process of. We have also developed substantially our adaptive assessment learning system, which essentially is a system for students to take questions and get assessed and get measured on their mastery levels of different academic subjects. We have that system substantially developed at the moment. Our instant messaging platform is also substantially developed at the moment. Obviously, when I say substantially developed, I'm saying that there's going to be some refinements and fine-tuning that needs to take place before we can actually get this out in the market. In terms of contents, we have also developed several thousands of exam questions or assessment questions, if you will. Assessment questions in subjects such as mathematics, physics, and chemistry. We've also developed or refined thousands of micro videos as well.
I think I can share some of these data points, but it's hard for us to really go into our internal milestones if you talk about the progress of our development. I guess, we are working very diligently on the product development side, and so far we are on track and we are seeing good progress.
Okay. Can you share some information about your CapEx next year for the educational platform and the products?
Okay. So for the education business, basically, it's a software product, so the main cost is going to be staff cost, if you will. We don't expect right now. We don't expect to have significant CapEx at the moment when it comes to our software ecosystem product. Even the hardware product, we are leveraging Foxconn to manufacture the tablet. We don't expect any significant CapEx for building out a tablet at the moment. Education is very much a people business. It's mainly going to be the staff, the cost of the people in developing the software.
Okay. I got it. Thank you, Ben. It's useful. Thank you, Ben and Maggie.
Thank you, Simon.
Thank you.
Thank you. Once again, if you wish to ask a question, please press star one on your telephone and wait for your name to be announced. As there are no further questions, we will now conclude today's call. On behalf of the entire NetDragon management team, I would like to thank you for your participation in today's conference call. If you have further questions about NetDragon, please feel free to contact the investor relations department. Have a good day or a good evening. Thank you and goodbye.