Good day, thank you for standing by. Welcome to the iQIYI third quarter 2021 earnings conference call. At this time, all participants are in listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during the session, you will need to press star one on your telephone. Please be advised that today's conference is being recorded. If you require any further assistance, please press star zero. I would now like to hand the conference over to the speaker today, Ms. Chang Yu, IR Director of iQIYI. Please go ahead.
Thank you, operator. Hello, everyone, and thank you for joining iQIYI's third quarter 2021 earnings conference call. The company's results were released today and are available on the company's investor relations website at ir.iqiyi.com.
On the call today are Mr. Yu Gong, our founder, director, and CEO; Mr. Xiaodong Wang, our CFO; Mr. Xiaohui Wang, our CCO, Chief Content Officer; Mr. Wenfeng Liu, our CTO, Chief Technology Officer; and Mr. Xianghua Yang, Senior Vice President of our membership business. Mr. Gong will give a brief overview of the company's business operations and highlights, followed by Xiaodong, who will go through the financials and the guidance. After their prepared remarks, Xiaohui, Wenfeng, and Xianghua will join Mr. Gong and Xiaodong in the Q&A session.
Before we proceed, please note that the discussion today will contain forward-looking statements made under the Safe Harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements are subject to risks and uncertainties that may cause actual results to differ materially from our current expectations.
Potential risks and uncertainties include, but are not limited to, those outlined in our public filings with the SEC. iQIYI does not undertake any obligation to update any forward-looking statement except as required under applicable law. With that, I will now turn the call over to Mr. Gong. Please go ahead.
Hello, everyone. Thank you for joining us today. In the third quarter, we faced a lot of volatility as we navigated through a particular challenging operating environment. We experienced uncertainty in terms of content scheduling, which resulted in softer than expected top-line performance. Despite the short-term volatility, we are delighted to see encouraging signs across multiple operating metrics.
Our leading market position remains intact as we continue to rank number one in various user metrics according to third-party data. We firmly believe there are a couple of eternal truths when it comes to entertainment. The first is that audiences constantly demand high-quality entertainment content, such as movies and dramas. The second is that creators have infinite potential to develop excellent material. With this market dynamics in mind, we think we have tremendous space for growth and development.
During the quarter, we continued to enhance the production capabilities of our original content, explore new genres to diversify into and expand our user base by refining our products and the overall user experience. Meanwhile, we have been driving the industrialization of video production to improve the efficiency of our operations. We believe all of these developments will enable us to navigate through the short-term challenge, and we are on the right path to achieve long-term success.
Now, let's go through the performance of our business segments in the third quarter. Let's start with the membership. During the quarter, our membership services revenue grew both annually and sequentially. Our core strategy is to cater to the demands of specific user segments with diversified content and continuously improve member benefits that enhance the member experience and drive new member sign-ups and user retention.
At the same time, we are focused on raising ARPU and improving the long-term monetization of our membership business by developing innovative new business models, adjusting our price points, eliminating ineffective discounts, and pushing through other operation initiatives. However, as I mentioned earlier, the uncertainty of our content scheduling caused a fluctuation in terms of subscriber numbers.
In the future, we will continue to enhance our library of content across different genres and strengthen our ability to withstand risks related to content schedule. In the third quarter, membership services revenue grew by 8% year-over-year, mainly due to the success of hit dramas such as One and Only, Zhou Sheng Ru Gu, and Forever and Ever, Yi Sheng Yi Shi, which were launched in the third quarter, as well as the continued interest in dramas launched at the end of the second quarter, such as My Dear Guardian, Ai Shang Te Zhong Bing, and the Rebel, Pan Ni Zhe.
As of September 30, the total number of subscribers was 103.6 million. The sequential fluctuation was mainly due to delays in the release of some highly anticipated content. Namely, the major content that we did release in the third quarter was less diversified in terms of genres. Despite the soft performance, we are happy to see that subscriber growth on TV devices and from overseas maintained good momentum. We believe that higher conversion of users on TV devices and the continued expansion of our overseas user base will be significant drivers of future subscriber growth.
On the other hand, our ARPU recorded both annual and sequential growth. As the annual growth rate of 10% was mainly due to the successful price adjustment that was rolled out last November. We expect the ARPU of our membership business will continue to improve going forward, driven by our content and our multiple operating initiatives. The member experience is one of the most important subjects that we focus on.
On October 4th, we proactively canceled the paid advance-viewing model, Chao Qian Dian Bo, ahead of peers. This should further help improve the member experience and thus support subscriber growth and retention, and lay a solid foundation for the long-term monetization of our platform. In addition, we continue to enhance member benefits on our platform with cooperation with top industry partners.
In terms of new services and the new business model, one of our key focuses is to promote the development of Cloud Cinema, primarily across three content categories. Theatrical films distributed via PVOD model. Premium films only distributed via online platform, and iQIYI original films. Since 2020, theatrical release of feature films have been hit significantly by the COVID-19 pandemic.
The Cloud Cinema model will reduce the reliance of online video platforms on their theatrical films. It enables users to watch new films soon after their offline release at a price that is cheaper than a traditional movie ticket, which further maximize the monetization potential of each film. During the third quarter, we released Our New Life, Wo Men De Xin Sheng Huo, Kungfu Stuntmen, Te Ji Shi, and Malignant.
Under our Cloud Cinema model, these films fall in different genres, namely comedy, action and suspense, which helps to satisfy the demands of different user cohorts. In addition, our first original PVOD film, Northeastern Bro, Dong Bei Ying Ge, was launched in October and received positive user feedback since its launch.
In terms of overseas expansion, we were able to significantly expand our user base, with DAUs increasing sequentially in a number of Southeast Asia countries. Downloads of the iQIYI app remained on top of the chart across various regions and ranked number one in Thailand, Malaysia, and Vietnam. Unforgettable Love, He Xian Sheng De Lian Lian Bu Wang, Forever and Ever, and other domestic blockbusters drove continued growth of our overseas revenue.
We also recently kicked off the development of six overseas original dramas, including four Korean and two Philippine originals. In addition, we continue to expand our cooperation with local partners, including multiple media platforms and operators in Malaysia, Thailand, and Singapore. We also launched our ad system in the annual cooperation framework agreements with numerous advertisers and successfully expanded a local sponsorship for our Mist Theater. Moving on to advertising.
During the quarter, our advertising revenue came in soft, mainly due to a drop in brand ad revenue. The decline was mainly due to the delay of key content, including dramas and variety shows. We continually work on developing a notable new variety shows, which we are doing to diversify our content and de-risk our business from content scheduling uncertainty. We are still refining and fine-tuning some of these productions, and it's going to take some time to win over advertisers and stimulate their budgets with these new genres.
The softness of our brand advertising business was also due to the overall challenging macroeconomic environment in China. Revenue from performance ads increased steadily both year over year and sequentially during the quarter. Our iQIYI Lite app was the main driver behind this. As opposed to our main app, iQIYI Lite mainly focuses on low-tier cities.
There is low overlap with our main app, which mainly focuses on brand ads. iQIYI Lite is expected to be a great complement that drives new growth of our advertising business. The year-over-year growth of performance ads also benefits from one, an improvement in our monetization capabilities driven by our technology, and two, contribution from key sectors, including internet service and e-commerce.
The sequential growth was also partially driven by the growth in our ad inventory during the summer vacation. Looking forward to the fourth quarter, we have observed some slowdown in China's overall macro economy, which might negatively impact our advertising business. Nonetheless, we are proactively adapting ourselves to the environment to minimize our potential exposure.
Moving over to content, we have experienced increased uncertainty in terms of content scheduling and a prolonged content approval process since our last earnings call. Although we prepared a rich slate of content during the quarter, some of the top dramas and variety shows in our pipeline experienced launch delays.
Going forward, to offset these types of risks, we are looking to further expand and enrich the diversity of our content portfolio, explore new and different categories and deepen user awareness of our diversified content offerings, all in an effort to de-risk our business from content scheduling issues in the future. In addition, we actively responded to the guidelines issued by the various government authorities to promote the health of entertainment and online media industries.
We believe these actions will further resolve long-existing problems in the industry, which should help us to further optimize content cost, eliminate chaos in content production and promotion, and reduce irrational industry competition. Overall, these changes should be beneficial for supporting the healthy development of the industry over the long term.
I would also like to highlight our content strategy. Efficiency in content production and operation has always been a primary target that we strive for, and we are now putting even more focus on it. We are proactively taking initiatives to improve the efficiency of our operations and reduce ineffective investments in content by cutting projects that are expected to generate low ROI.
The online video industry has rapidly developed over the past decade, and now we have gotten to a point where content is king and efficiency is key. We're happy to see the continued results of our progress to optimize content cost driven by our enhanced production capability, disciplined content spending, and improved operations.
An important metric we use to track the efficiency of our content spending is the content-related cost ratio. Simply speaking, this metric is calculated by dividing the total cost related to a title by the revenue generated by it. Based on this measurement, we can see the operating efficiency of our overall content in 2021 have improved substantially from last year. We will continue to use this metric as an effective tool in managing the efficiency of our investments in content and our operations.
For example, One and Only and Forever and Ever were our two dramas launched this quarter. These two titles were both adapted from the same novel, which created synergies in terms of IP, and they are quite innovative in terms of both content creation and the broadcasting models. Also, these two titles are good examples that demonstrate our increased efficiency and in content operation as measured by the content-related cost ratio.
The performance of One and Only was 13 percentage points improved than last year's drama Love is Sweet, Ban Shi Mi Tang Ban Shi Shang, which features the same leading actress and belong in the same genres. We would also like to share some highlights on the performance of our vertical content sales model strategy. We have always been the industry pioneer in terms of content innovation and operation.
Our sales model strategy is definitely one of our successful attempts. This model helps us to build recognition among audiences and advertisers in different genres, in which beneficial for attracting new user and driving up user retention and offers better ROI as it brings synergies among different titles within the same content genres.
It provides more flexibility in working with advertisers. For example, we observed that the recent broadcast of The Pavilion, Ba Jiao Ting Mi Wu, and the visual [audio distortion ] boosted the viewership of Mist Theater first season titles, especially the recent daily video view and user time spent for The Bad Kids increased by more than 2x since the new season of the Mist Theater was launched.
Looking forward to the fourth quarter, although we predict that uncertainty will remain in the market, we will continue to execute our diversified content strategy. In addition to the new season of Mist Theater launching in the fourth quarter, other key titles include the drama serial Feng Qi Luo Yang, the variety show Super Sketch Show, Yi Nian Yi Du Xi Ju Da Sai, and the action [Kai Pai Ba Game Yong], and animated content such as Devil Squads 2 and The Princess Dorami. The Super Sketch Show premiered in mid-October. The show was highly acclaimed by audiences and solidified our market leadership in variety shows. Moving on to technology.
Advanced technology is the foundation of our business, and we are constantly developing new technology to improve the user experience, increase user penetration, develop innovative new content formats, and enhance content production and the efficiency of our operation. At the same time, technical innovation is key to the industrialization of video production in the industry. It will be greatly beneficial for improving the probability of success, increasing ROI, simplifying the production management process, reducing production costs, and enhancing the viewing experience.
We continued to make progress in terms of user penetration. The user scale of iQIYI Lite grew rapidly. Peak DAUs increased by nearly 2 x sequentially, and user retention and monetization has also improved. In terms of user profile, as I mentioned earlier, iQIYI Lite is mainly focused on low-tier cities. The growth we have seen with this app speaks to our success in penetrating into these regions.
In terms of content production and efficiency improvements, we continue to apply AI technology to effectively reduce production costs during the quarter. For example, operating costs can be effectively reduced with our proprietary intelligent translation tools. We have fully replaced the manual translation with automated AI translation for B-level dramas in Malaysia.
Going forward, once we fully adopt this technology for our overseas business, it will save us hundreds of millions of CNY in translation costs in the future. In terms of industrialization of video, we have launched and applied multiple technology and products to our content production, which reduce the production costs, increase efficiency, and improve the user experience. Take our proprietary multi-view capture system as an example.
The system significantly shortens the shooting time and the work volume of manual work. It supports the full production process from camera deployment, video shooting, to post-production, make content production more efficient. Other intelligent tools launched include a script supervisor management product, which can be used in the mid-stage production process.
The product has been applied to six paid variety shows, including some of the external works in production. Also, a management tool for the post-production editing process has been used by a number of post-production companies in the third quarter, improving transcoding efficiency by 3.7x . In summary, we are proactively adapting ourselves to the current environment. We continue to be a pioneer when it comes to content innovation and operation.
Meanwhile, we are seeing a promising growth trajectory for our new initiatives, such as iQIYI Lite and overseas business. Our original content, especially our theater model content, is highly recognized by users and advertisers. We will continue to take the lead in rolling out our technologies and tools for intelligent production, and driving the industrialization for the long-form video production process, which should help to further optimize our operating efficiency.
We have evolved along with the trends in the online video market over the past decades. The experiences we have accumulated and our expertise are exactly in line with where the industry is heading. We value the current challenges as a crucial learning opportunity. We continue to believe that what does not defeat us makes us stronger. With that, I'll turn it over to Xiaodong Wang to talk about our financials.
Good morning and good evening, everyone. Let me reveal our key financial highlights for the third quarter. Our total revenue reached CNY 7.6 billion. Membership service business continued to be our largest business pillar, with revenue increase 8% year-over-year and accounted for 57% of our total revenue. Online advertising revenue decreased 10% year-over-year, primarily due to less premium content launched during the quarter and the challenging macroeconomic environment in China.
Our content distribution revenue achieved a 60% growth on a year-over-year basis, and we distributed more content titles to other platforms during the quarter. Our cost of revenues increased 10% from the same period last year, among which content costs increased 13% from the same period in 2020. The increase in content costs were mainly due to the more investment in original content during the quarter.
Our operating loss margin on GAAP basis was 18%, remain largely flat compared to the same period last year, driven by our disciplined investment strategy. As of September 30, 2021, the company had a cash equivalent, restricted cash and a short-term investment of CNY 11 billion. For detailed financial data, please refer to our press release on our IR website. For the first quarter of 2021, iQIYI expects total net revenue to be between CNY 7.08 billion and CNY 7.53 billion, representing a 5% decrease to 1% increase year-over-year. This forecast reflects iQIYI's current preliminary view, which may be subject to change. I will now open the floor for Q&A. Thank you.
Operator, please open the floor to questions.
Certainly. To ask your question, you will need to press star one on your telephone. To withdraw your question, press the pound or hash key. For the benefit of all participants on today's call, if you wish to ask your question to management in Chinese, please immediately repeat your question in English. Please limit your questions to one at a time. If you wish to have follow-up questions, please rejoin the queue. Hit star followed by one to ask your question. Your first question comes from the line of [LRG] from China Renaissance. Please go ahead.
Thank you.
[Non-English content].
I just wonder how is that going to affect our future business? Second question is relating to the future membership growth potential. Just wonder, regarding the future membership, is it going to be mainly from lower-tier cities or still from the major tier cities, from the reactivation of the older members? Third question is, just wonder, could management share anything new or exciting or promising relating to the variety shows going forward? Thank you.
[Non-English content].
I will translate Mr. Gong's feedback. For the first one, in terms of your question regarding the consumer council, this kind of applies to the full industry players. Our feedback comes from the two aspect. One is the product design. The first one comes from the product design and the second one comes from the flow of the product. For product design, we've been also communicating with the consumer council, also collecting feedback from our customer service department. Our goal is to increase the user experience, trying to lower the a ccidental clicks of any unnecessary steps.
Overall the user experience will be increased and improved. From the business model perspective, we've been also communicating with the consumer council in terms of also the user agreement to make sure all the messages are communicated clearly with the users. That's the first question regarding the consumer council related questions. The second one is our penetration into the different tiers of cities. For now, for our penetration in different regions, for the high tier city, the first and second tier cities, the penetration is high. For the lower tier cities, the penetration is relatively low for this point. Our iQIYI Lite is the main app that targets this user demographics.
For iQIYI Lite, right now we offers a lot of the free content. If the users consume the free content, and then they actually will see the advertisements for that. Right now on the advertising side for iQIYI Lite, performance ads has a high percentage of revenue contribution. I think going forward, iQIYI Lite needs one or two years for improvement and for growth, and we will keep working on this application. For our main iQIYI app, that's still gonna be our main target for elevating our operations, optimize user experience, optimize product, and optimize the product features.
The third question I'll switch over to Xiaohui Wang, our CCO to answer the question.
[Non-English content].
Okay. Xiaohui Wang responded to the talent show question. Because of the fan culture that's been existing in this entertainment sector for a long time. It does have some impact on the variety show segment. For now, the Korean based or Korean style talent show that's prohibited in the video space. However, there is still a lot of ample room for growth in terms of variety shows. For example, we can focus on genres that's like comedy, emotional and also some talent show, but that's not relatively to the Korean style. We also launched our new comedy variety show called the Super Sketch Show, which is the new content genre that we innovated originally.
Based on its first feedback since its launch, we have seen promising user feedback and viewership from this show. Our variety show performance is back to number one position in the market. Going forward, especially in the fourth quarter, we'll still launch innovative variety show content genre, for example, like we mentioned in the opening remarks, Action. That's also an innovative variety show that will be introduced to the users. Thank you.
Thank you very much.
Thank you. Once again, due to time constraint, please limit your questions to one at a time. If you wish to have follow-up questions, please rejoin the queue. Please limit your questions to one at a time. Your next question comes from the line of Alicia Yap from Citigroup. Please go ahead.
[Non-English content].
Thank you for taking my question. My question is related to the overall longer term outlook for the long form video industry. Will there be any change of the strategies for yourself, develop like self develop content, you know overall the content genre and even, you know for example the type of, the length of the drama series, the type of the genre that you plan to produce. In addition, can long form video monetization model break out beyond the current membership subscriptions and advertising? If so, what could be the new model? Thank you.
[Non-English content].
For right now I think the biggest problem in for the online video space is the supply shortage contributed from various reasons. The first one is of course the biggest one the COVID-19. For example the number of movies launched since COVID-19 is only less than half, 50% of 2019 level. For traditional satellite TV series, the quantity is only 1/3 of the past. For the new form of Internet series, the Web series, we experience major delay because of the stronger censorship.
Even though the content was launched, but the quality was got taken a discount or there's some less promising feedback from the quality. Theoretically speaking, these are the reasons that contributed to the supply shortage for the video content. If you taking the short form video reason that also contributed to this because it's also taking the user time spent and this is one of the biggest I guess f actor that contributes to user behaviors.
For your questions about monetization models, I think we have been working on taking the full process of the entire IP chain. For example, we have a good IP, whether it's from the script level, whether it's from the story level, we wanted to take this through the whole entire process of the IP lifecycle. We can develop this into, you know, TV series, movies, games, also, franchise products, et cetera. I think going forward, if you're looking at the long-term perspective of this industry, a healthy model will be, you know, the advertising revenue plus the subscription revenue plus the PVOD model, all together, it's better than our investment level. That will be our end goal.
We think it's the sustainable model going forward in the long-term prospect of the online video industry. Yes. Okay. I think if you look at the overall grand picture of the online or actually the entertainment space, movies started 126 years ago or about 100 years ago. We believe the consumer demand, the user demand for high quality premium content is eternal.
Also the creative talent for this area is continuous. All of these, it just needs time to grow the space. I think for online video space, we strongly believe there's ample room for growth in the future. It's just now that we are practically adapting ourselves to the new environment to embrace all the changes in the environment. We think we are the very experienced team with expertise in this industry that will enable us to face all the challenges and be a successful player in the industry. Thank you.
Thank you. The next question comes from the line of Thomas Chong from Jefferies. Please go ahead.
Thanks management for taking my questions. I have a question regarding overseas competition. We have just talk about using technology and achieve efficiencies through the translation process. I just want to get some understanding how we think about the competitive landscape in different market. Will we step up the investment in overseas going forward? Thank you.
Okay. Our Senior Vice President Xiangh ua, in charge of the membership service, will answer this question. For our goal for overseas business, our primary goal is to export our original content to various regions around the world. So, the first situation we encountered is the translation situation. All different regions have different backgrounds so our goal initially was to find content with similar background. So for example, the conflict in Southeast Asia region and also North America there are a lot of Chinese folks in the area.
[Non-English content].
Based on our internal data, we know that a lot of our series are very welcomed by the young audiences in the overseas area region.
Thank you.
Thank you.
Thank you. Thank you. Due to time constraint, that was the last question, and I would like to hand the call back to management for any closing remarks.
[Non-English content].
I will summarize our short-term goals and long-term goals for our company. So, as you know, in our opening remarks we mentioned we are taking a lot of challenges in the short-term related to government regulatory environment. However, we've been practically adapting ourselves to that new environment of monumental situation. So we expect for the next one or two quarters we think the regulatory environment will become the new norm and be stable and our main goal going forward, first, is to reduce our loss and we will further optimize our content cost, in our industrialized initiative for video industrialization.
And also we will execute strongly according to our strategy and we will eliminate the content that doesn't fall in line with the policy and at the same time we will also explore new monetization opportunities. So that's our overall strategy for the short-term and ultimately for long-term. Thank you.
So thank you everyone for joining us. Feel free to reach out to us if you have any questions. Thank you.
Thank you. Bye bye.
Thank you. That concludes the conference today. Thank you for participating. You may all disconnect now. Thank you all.