Earnings Call: Q4 2016

Feb 23, 2017

Thank you for connecting to our earnings call this morning. My name is Vlad Sadlobov and I will walk you through the presentations that we have for you today. So let's move on to the stage 1. And the highlights of the quarter, the 4th quarter includes outstanding year on year drop of 82% in our top line And we've also grown quite a bit our revenue in Q4 compared to the 3rd quarter by 46% quarter to quarter. And this was possible because we have expanded our monthly audience quite a bit by 75% year on year and the number of monthly unique payers has also increased by almost 70% year on year. And the a little bit further increase came from the fact that in average revenue per paying users, average checks also went up by about 10% as you can see from our reports. And the main driver of this growth was the cumulative games, one of our licensed games. And we also have seen quite a bit growth in our owned wholly owned portfolio of games, specifically in the joint journey and to virus the quest were tough performance in that part of the portfolio. And as I mentioned, the user acquisition team has done a great job of really boosting our audience in this quarter and getting our audience to the next level, I would say. And this has produced this outstanding growth in the quarter. Then other highlights in the own part of our portfolio were Twin Moons and Supermarket Management Games. They were released the 3 months just came out at the end of the Q3, but already we've seen some very good performance from the game. And supermarket community journey has been around for some time, but it kind of started getting really better during the Q4. Let's move on to the next slide and look at these results in more detail. So the net turnover for the quarter was almost SEK 185 1,000,000, 82% growth year on year. Actually, the underlying growth in previous play games was more like 95% and the unlockable games segment continues to slide down. It's now a small percentage of revenue. I think it's down to about 3%, some 9% in the year before. We have seen a larger share of revenue coming from Asia in the Q4 than a year before that or even compared to the Q3. That is connected mostly to the fact that we have identified cohesive growth, certain points of growth in Japan, South Korea and China with some of our games. Specifically, TV City was very successful in geographies and we focused on growing the game in these specific markets. So that brought some increased revenue from there. And the chart if you look at the chart provisions of HilliCity in these markets, it continued improving even after the end of the Q4, which is quite exciting. Another area of focus during the Q4 was increasing the percentage of revenue coming from small screen devices, by that I. E. Phones with a host of tablets, where we usually have seen most of the success with our games. But in Q4, our user efficiency team did a great job of kind of increasing our audience in the small moving to small screen device owners. And that also something that didn't happen largely for. So this is something we have achieved in the 4th quarter and it's very exciting things. The operating profit in the quarter was SEK 7,300,000 and EBIT margin of only 4%. So the reason the margin was lower than in the 3rd quarter is user acquisitions in the Q4 and that was done on purpose in order to increase the pace of growth of the company and winning the company to the new level of revenue. But that comes at the expense of sacrifice in the EBIT margin in the short term for a little longer term, we shall see the improvement in the margins going forward. And this margin, this level of profit margin is not representative of what the company is going to deliver. That said, even with the lower profit margin in the quarter and lower earnings year on year, if you look at the year overall, you see that we have actually equal our earnings year on year for the full period and earnings per share as well. And that is in line with our commitment, which is something we've been doing for a few quarters already that we aim to gradually increase earnings year on year and we are delivering that. But when we see the opportunity for growth and the opportunity to build the company to the new level of revenue, still we'll do it some business. So another highlight of the Q4 is that we had a very solid positive cash flow of SEK16.5 million. And I think we have a record amount of cash and cash equivalents on our accounts at the end of the year. That is the same. So let's move on to the next slide and moving through how your acquisition expenses worked in Q3 and Q4. I think it gives a good understanding, good explanation of what happened there. So you can better understand what happened with the margin in the Q4. So in Q3, we realized that there is an opportunity to grow revenue substantially, if we can invest in our money in new acquisitions. And we have a number of tools that show us how well these acquisition expenses are working in terms of how much money these users that we acquire spend, how fast can we get the money back. And looking at these numbers, we saw opportunities that we can substantially expand our revenues. So we decided to go in at the beginning of Q4. And you can see that in October, we have increased new acquisition expenses almost 100% compared to September and we kept them more or less the same in October, November December. As a result, what happens is that our revenue started growing much faster than before. You can see very substantial growth in November compared to October and December compared to November. You can also see there is a certain lag We've increased the acquisitions pumping in October, but the increase in revenue came in November and further increase came in December. Although we kept spending at the same level, that's what's happening when you have finished these fundings and the dynamic, the regulation and how users pay back so that that is when we acquire a user and they stay within the game for a long time and they gradually modify it better and better and over months. So, some of these are staying in our games for several years. But obviously, when we spend a new acquisition, we expect to get the money back faster. But in any case, we don't get the money back in the same month. In the next month. In fact, the recruitment of the money invested in these acquisitions and getting a profit on top of that amount can last for 1 or 2 or 3 quarters. And that's the reason you are seeing this dynamic here, revenue against the revenue. But the good news here is that you can see the orange line, the revenue extended as a percentage of revenues jumped up substantially in October, but then it gradually was going down towards December. And basically, the goal of using new acquisition expenses to boost the company's revenue and bring it to the next level is to increase new recognition expenses and hold them there until basically the user acquisition expenses, fee revenue comes back to the same number where you started. And that's from basically if you extrapolate that's happening from here, that's something that we may see in the Q1 or in the second quarter. I actually spent a part of the CEO comment in the Q4 report explaining it in more detail. So, we see even more kind of reading of that, that's available right there. Let's move on to the next slide. So, this is a snapshot of our revenue over the last 3 years, a bit more than 2 years. You can see we've been started 2016 rather slow, but then with PVC doing really well in the market, we've seen Q3 that it's capable of growing substantially and we went all the way into Q4. Again, 82% top line growth, free to play segment growing by 95% as I mentioned, undercouple teams are down to 3 to 6 and it was 9% of total revenue last year. So some impressive growth here. Let's move on to the next slide. This is a breakdown of our operational costs by the same quarter. So you can see they were more or less stable. And the big difference in Q3 is the research and development expenses. And the biggest difference in Q4 is obviously spending on sales and marketing, which is mostly driven by user acquisition expenses. And apart from that, there's really not much change in our expense level. Everything else is growing much slower than our revenues or our EBITDA expenses. Let's move on to the next slide. EBIT and EBIT margin. As you can see, we've been profitable in 2016, more profitable in 2016. And of course, the picture of the Q4 is a little distorted because of this substantial spend on user acquisitions while we push company's revenue to the next level. But still, if you look at the full year, the EBIT margin has increased from 5 percent in 2016 to 7% in 2016. And obviously, at the same time, we delivered higher earnings year on year. So we are delivering on our commitment to gradually improve earnings year on year. Yeah. So, yeah, there's really not much to add on this one. Let's move on to the next slide, net capitalization. So as you probably know, the supplies are gain development expenses. So expenses related directly to the development of senior gains. We took them on the balance sheet. And after the soft launch period is over, we start amortizing the value on the balance sheet. And this chart shows you the difference between the it shows the net capitalization, basically capitalization minus amortization. And it has been positive over a long period of time. But by the Q4, it's almost zero. We almost canceled out. So there is no effect pretty much no effect of capitalization and amortization on our earnings in the Q1. And that is also the reason why we're seeing substantial positive cash flow in the quarter. This is the true profit as we like to think and it also shows in our free cash flow, which is substantially better than before. If we look at our gain portfolio, you can see that we are down zone of 0 and not really gaining unlockable segment, which is natural. They are substantially smaller with the at least unlockable games. And we have seen because we have seen a number of moving digital phone games in free to play sectors, the amounts have moved from not really games free to play to really changed free to play and that's now the biggest part of our balance sheet. Overall, the total value of change in our balance sheet has changed and increased a little bit, but that is not a substantial not a very substantial change. And going forward, expect to be at about the same level. We don't expect to see dramatically ramp up our development, neither we expect to somehow starting to start some events. It's probably going to stay at about the same level, maybe increase gradually over time, but the pace of that increase is going to be much slower than our spend on marketing or our revenues. And let's move on to the cash flow slide, the next one. So we have cash flow from operating activities of $29,700,000 in Q4, which is quite an increase over year on year. And we have a bit more invested utilities this quarter compared to a year ago. We have the revolving free cash flow of $16,500,000 And yes, as I said, this is the basically e profitable and amortization catching up with capitalization because we have really more gains and we started amortization of more gains these came out. Almost cancel out now. So, we basically have a whatever EBITDA is seeing against cash flow and then you have to include the non cash charges because even though we have a merchandization test, it's not a cash charge. So the resulting cash flow is even larger than you did in the quarter. But I hope I explained it well enough. And with that, we're moving on to the next slide, questions and answers. We have a question registered from the line of Gustaf von Sillos from Cowgus Pfonders. Please go ahead sir. Your line is now open. Yes. Good morning or good evening. I have a question about the cost, I would say, in the sales and marketing. I think most participants of Polyurestalk are a bit surprised about the size of that now and the percentage referring to the sales. So my question is, how long is the sort of how stickable are the customers now? And what are we going to expect for the year coming as the All right. Thank you for the question. So basically, if we can go back to the slide with the new acquisition, you can see that already during the Q4, the percentage fee recognition expenses, revenue started dropping down, although the revenue continued to go up. So our goal is to basically move up by doing these first sort of sequels, stepping up user acquisitions expenses to the new level and then waiting for the user acquisition to revenue ratio to go down back to previous level. So, I what I want to see when we are doing something like this is I want to see the derecognition as a percentage of revenue go back to the level where it was, so about 15%, 17%. However, if we see that we can continue this phase of growth, not just to rise at the next platform and then keep it there like we did in Q3 and Q2 and Q1, But if we feel that we can bring it further, then we may extend this period and we may not wait the whole quarter for the EUA to revenue to go down all the way and we may continue and, for example, step up the e acquisition expenses once again. This will sort of prolong the period of lower earnings margins, but that will be our decision that will be driven by our decision to go higher in revenues. There is also some middle ground. There is usually a middle ground where we maybe spend not the minimum that we ever had to use an acquisition expenses, but a little higher, but below the maximum where we can keep it steady at about this percentage and the revenue we will continue growing. This is a part of our operational decision pretty much every month. And, you know, some things that we should go all in and try to grow as much as possible even sacrificing our profitability and some prefer that to be very be in reality is try to be somewhere in between and we be in reality is try to be somewhere in between. And we have made a commitment that sort of restricts us in terms of how far we can go with increasing user acquisition expenses because we have said that we will deliver the growth in earnings year on year. So and that will be in 2016. If you compare 2016 earnings, they've grown substantially. Their earnings margin grades expanded compared to 2016. So, that limits how much how all in we can go when we see the opportunity for growth. So, we want to keep the company profitable. We want to deliver earnings for us year on year. Otherwise, we will see and direct our senior acquisition spend to where we think we can achieve the highest return on user acquisition expenses and the highest profitable growth. And to your question about for how long the users will stay in the games, so users stay in games for a very long time. We have cohorts of users acquired in February 2016 that are still making money from accounts of paying money every month. So some paying users stay for many years. Of course, you lose a large number of users along the way and much every user becomes the paying users. What's important is that we carefully measure the return on the marketing spend that we are doing and we are tracking it very carefully month to month. And we're making sure that when we go and we really do that in part in new acquisitions, We are by that moment, we are confident that we're getting that money back and we are tracking that we actually do that. Did I answer your questions? Yes, fine. Can I have a follow-up, please? Yes, please. I think about the Twin Moons and your other own developed gains so that you own yourself. My question is how long is the process when it comes to sort of trimming it and really getting it the way the players want to have it. I mean, I remember last spring, we talked about Hidden City and took some 6 months to get going. And I wonder how is it going with the Twin Moons in that respect? Yes. So I'm afraid that TV City took a bit more than a year for the game really to start working. It has been released in the 20 14, if I remember right. So very soon the game is going to be 3 years old. So it took quite a bit of time. And unfortunately, it's not always easy to predict. If it was that simple, it wouldn't be such a challenging business. And we've seen some games perform quite well from the beginning. And some other games taking quite a bit of time to gain the following the audience and to really get to the same where we can scale and further. Some of the challenges that we face include adding enough content to the game to clean up and a good problem to have because if everything else is working, this is something that can be solved with adding more resources, which still takes time, but it's not the biggest issue. And sometimes we run and see issues with figuring out the way monetization must work for the game to be scalable and attractive to users. And it's just a very complex process that unfortunately is not completely predictable. But 6 months, I would say, is a minimum to get to a point where the game can be really scalable. And we've seen more. We've seen a year, which is a little bit more than a year. So that's about the range. Okay. Thanks. And as there are no further questions registered, I'll hand back the conference to the speakers. Yes. We've had a few questions on e mail. This is Stefan here. And I received, so we'll ask those. So we've seen one question from Johan Leop. He asked about how the VR project that we communicated, how that's drafting and then what the plans are? Yes. Yes. Thank you for the question. We are looking with great interest in this area. If all of the news, perhaps you could notice that perhaps the start essentially with the desktop platforms wasn't as bright for foreign game developers as many hoped. Now we're going to be looking more towards AR and MDR on mobiles and that's considered the megabit same. And we are course, following it and we have some ideas how to maybe use the technology in our games. And that's the reason we are doing that, but we have not made any announcements yet. What we have said is that we do not expect this to have any impact on the companies in the short term, and it pretty much remains the same situation for us. We also have a question from Stefan Klubson at GMU. Wondered he's been obviously looking at the charts and he asked the question if we could comment on the drop in performance for Hidden City in U. S. Mid February. Seems like a data issue in Aftani. But the performance has not recovered afterwards. Any reasons for this? I'm really I heard something, but I'm really I can't really speak on the subject. I mean, charts are even they're just trucks and which Apple and Google some numbers that Apple and Google and other companies are putting out there. And I don't follow them, to be honest, on everyday basis. And I follow the revenue and the audience of our days. And there may be fluctuations that have to do with a number of things, starting with the glitches in the systems of Apple and Google and we've seen a couple of those over the years. I don't know if that's the case now. There are also the even the revenue that the data is making can change depending on whether you have some special events going on now or whether it has just finished. And there may be other things that are running in the game and the game may go up in the charts for some days and then go down a bit. And that is all normal. And we are tracking the situation with the sales every day and ECCM issues, they obviously go and fix them. So there's really not much to say at this point. And we are going to have some preliminary sales announcement in the beginning of April. That will be for the Q1. So we will see some numbers like in terms of 3 week performance in the Q1. That was all the questions here you know. And there are no further questions registered on the phone line. All right. Thank you, everyone, for being with us today. Thanks for your interest in the company.