Earnings Call: Q4 2020

Mar 15, 2021

Ladies and gentlemen, thank you for standing by for ZEP Health Fourth Quarter and Full Year 2020 Earnings Conference Call. At this time, all participants are in listen only mode. Today's conference call is being recorded. I will now turn the call over to your Ms. Grace Zhang, Director of Investor Relations for the company. Please go ahead, Grace. Hello, everyone, and welcome to ZEP Health Corporation's 4th quarter and full year 2020 earnings conference call. The company's financial and operating results were issued in a press release The newswire services earlier today and are posted online. You can also view the earnings press release and the slides to which We will refer on this call by visiting the IR section of the company's website at www.zap.com/investor. Participating in today's call are Mr. Huang Wang, our Chairman of the Board of Directors and Chief Executive Officer and Mr. Liang Chen Deng, our Chief Financial Officer. The company's management will begin with prepared remarks, and the call will conclude with a Q and A session. Mr. Mike Young, our Chief Operating Officer, will join us for the Q and A session. Before we continue, please note that today's discussion 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 involve inherent risks and uncertainties. As such, the company's actual results may be materially different from the views expressed today. Further information regarding this and other risks and uncertainties is included in the company's annual report on Form 20 F For the fiscal year ended December 31, 2019 and other filings as filed with with the U. S. Securities and Exchange Commission. The company does not assume any obligation to update any forward looking Statements except as required under applicable law. Please also note that ZEP's earnings press release and this conference call include decisions of unaudited GAAP financial information as well as unaudited non GAAP financial information. GAAP's press release contains a reconciliation of the unaudited non GAAP measures to the unaudited most direct Comparable GAAP Metals. I will now turn the call over to our CEO, Mr. Huang Wang. Please go ahead. Hello, everyone. Thank you for joining our call. 2020 was a remarkable year for all of us. Yet with all the Severe disruptions brought by the global pandemic. I'm pleased to report we recorded Full year revenue growth on a year over year basis of 10.7% and total shipment volume rose 8 Sam for the year reached 45,700,000 units, especially our self branded products, which rose 20%, reached 4,700,000 units. These results are despite a 4th quarter tempered by COVID's impact in several of The international markets we served, specifically in Q4, our revenue dipped by 6.6% and total shipment volume fell 9.5%, both on a Year over year basis, we should highlight, however, against the challenges, our own brands achieved 31.3 percent shipment growth in the 4th quarter and continuously Strengthened market leadership in countries and regions such as Indonesia and Spain, which we still rank it number 1 In terms of adult smartwatch shipment, as vaccinations worldwide has begun rolling out in mesh, We are confident that our business will rise again soon in both revenue and shipment volume in 2021, especially our own branded watches, which will become the main engine for the business to grow. The broad appeal of our smart health products and services and our debt Ability to execute in a rapidly changing environment. In 2020, We made significant strides in building out our strategy of connecting health with technology. Notably, We identified 3 pillars that will function and be developed as the framework for our business. These are Consumer Health Technology, Data Analytics and Industrial Health, I'd like to take few minutes To explain this now, consumer health technology is the backbone of our business. Our products and services in this portfolio showcase many of our attributes that have made us a global leader in the smart wearable space, namely commitment to innovation, Cutting edge technology and speed to market. In 2020, we introduced A record 20 plus new products and upgrade versions. We also branched into new product categories including earbuds, scales and home fitness equipment such as chat mills. Many of these new products were present at the Consumer Electronics Show, CES, And accurate from reviewers in leading publications including wearable, TechRadar, Digital Trends and Gadgets and Wearables. A key element of our Strategy in this segment is to continue to rapidly innovate and bring increased functionality and features to our products at all price points. This has been the bedrock of our success in the wearable space and you can expect more the same from us going forward. Supporting this effort It's our ongoing commitment to R and D, which is core to our DNA, our Properly designed and built AI smart chips, the Wangshan is Shining example of our prowess in technology that distinguish us from competitors. Now in its 2nd generation, the Huangshan 2 introduced in 2020 is the most Powerful and fastest AI smart chip for variables of this kind. And We have already begun rolling out in our products. In the meantime, we are also in the process of developing the new Huangshan 3. And we believe we are in the leading position On the AI Smart Chips Industry for Valuables, data analytics is the 2nd pillar In our framework and is an integral part in expanding our smart health ecosystem. Permitary, targeting insurance care providers and employers, This segment works to utilize our data analysis from more than 30,000,000 active users In partnership with industry to empower better value decisions. In this regard, In late 2020, U. S.-based insurance company, Jan Re, cited Study results using analytics from our PiHealth units as providing you need value Beyond traditional tools in the underwriting process, just last week, Generally had another announcement of our study documenting Pai's effectiveness At improving employee health and longevity, we see this as Hard because of growing recognition for the value valuable data analysis can bring to the industry. While the pandemic largely consumed the attention of the insurance industry in 2020, We are hopeful 2021 will afford more opportunities for insurers to integrate Variable device data analytics into their business. Industrial Healthcare is the first area We are developing as part of our framework. This is a long term development effort. I believe the industrial health technology space represents a tremendous opportunity for us To apply our engineering expertise in precision sensors, biometrics, AI chips and engineering capabilities focus on miniaturization and health data analysis. I believe this space is also ripe for disruption. Most recently, You have seen the announcement of the partnership agreement and investment with PrimaXio, a provider of miniaturized MRI technology targeted initially at urologic applications. Just 2 weeks ago, they received their FDA 510 clearance, which was a very exciting critical step. You also should have noted 2 different announcements about our partnership with Rouxmet, A first mover leader in portable X-ray technology, we are working towards private labeling all of their miniaturized X-ray systems for sale in China. In the Industrial Healthcare segment, in the near term, we will derive Incremental revenue from helping sell products in China. In the long term, We plan to engage in select joint research and harness ways to integrate imaging Data or imaging devices into our health technologies ecosystem To better reflect our strategy positioning, connecting health with technology, Our expanding product portfolio and our growth in the global industrial healthcare technology market, On February 25, we announced our name changed to ZEP Health Corporation. This name is easy to remember, strengthens languages and cultures. Last but not least, in October, we extended our strategic cooperation agreement with Xiaomi Corporation For an additional 3 years, as part of the extended agreement, we will continue to receive the most Preferred partner status to develop semi valuable products and enjoy most preferred strategies partnership status for research and development of AI chips and algorithms for wearable devices. We are currently working on Mi Band 6 and expect to launch in the near future. In closing, while no one could have predicted the enormous impact COVID had On the war in 2020, our results for this year serve as a solid proof points for the The resilience of our business, the soundness of our strategy and the broad based appeal of our partners, Even though we can still foresee that the COVID still remains our smart variable business in the short term, Especially in a few European countries, which are our key markets, I am confident That as we continue to execute on our strategy of connecting health with technology, we are well positioned to capture new and exciting opportunities and deliver long term shareholder value. I will now turn the call over to Leon to go over highlights of our Q4 and full year results. Thank you, Wang. I'm going to drill down from 1 full year view to talk specifically about the 4th quarter. As I did last quarter, I want to provide some specific color commentary on just a few key metrics. Starting with sales, From my perspective, the company had a great quarter despite renewed impact of the COVID virus reinstituting Lockdowns in some of our key European markets for the important holiday period. Our unit sales were up in most of these markets, but they were up not as much as we believe they would have been otherwise. In addition, a second COVID related impact on the quarter was product deliveries delays in China with some of our new products in the quarter. As a result, Q4 revenue from our own Amazfit and Depp branded products was up 25% year over year, which we believe could have been even stronger. The 3rd and the largest factor pushing our numbers to the lower end of our guidance range was that sales of Xiaomi products were not as robust as we had hoped for, resulting in a 21% decrease in revenue in the quarter compared to 2019. We believe consumer anticipation of Xiaomi's new model may have factored into this effect. These effects together translated into Q4 revenue of RMB1.97 billion compared to our guidance range of RMB1.95 RMB1.95 billion to RMB2.15 billion. One of the important takeaways of the quarter is that we saw strong product sales performance across our pricing spectrum from the higher end to the value priced. For example, of our own branded smartwatch and band products, the more fashion oriented GT Series, in which the newest model sell for US180 dollars comprised 41% of the smartwatch and band units Shipments in the quarter, sales of our basic smartwatch series BIP and POP in which the newest models sell for around 60 US dollars to US70 dollars comprised around 28% of our 4th quarter smartwatch and band unit shipments. We think it is important to highlight that our products appear across a broad spectrum of price points, Feature sets and consumer expectations. Revenue from our self branded products grew mid teens to mount 30 percentage points each quarter in 2020 and we expect that trend to continue. Now moving to gross margin. Gross margin can be affected by product mix, product launch timing and product life cycles, including model upgrades. The 480 basis point decrease in gross margin from the year ago Q4 was predominantly driven by lower margins on product produced for Xiaomi and to a lesser extent on our own branded products from discounting to run out older products and holiday promotional discounting. Next, I want to provide additional color on operating expenses. Total operating expenses trended up through the 1st 3 quarters of 2020, but in the 4th quarter decreased sequentially in both absolute amount as well as the percentage of sales. This was a result of the cost control measures we discussed in last quarter's call to prioritize the highest return activities in all expense areas. While reduced sequentially, Total 4th quarter operating expenses were up 8.9% year over year, reflecting sales and marketing investments in additional headcount, as well as marketing and support for global expansion of our self branded products. I'm sure you noted In our release, the threefold increase in the number of countries in which we had 100,000 or more device activations in this year's Q4 compared to 2019. The increase in sales and marketing expenses year over year was offset by reductions In R and D and G and A expenses, we believe R and D is mostly scaled to continue driving our new product developments in 2021, which we know is a key factor to our success. Given the uncertainties of the pandemic for the foreseeable future, We're going to continue to manage operating expenses to a percent of sales targets at about where we are now in order to drive profitability. Reported net income as a percentage of sales was 5.8% for compared to 9.8% in a year ago Q4. Q4 net income benefited from a net year over year increase of RMB 50 $6,500,000 in gain from deconsolidation of a subsidiary, which is a result of 2017 partnership with the electric toothbrush company in China. The company's cash position continues to be strong, Finishing the Q4 with the cash and cash equivalents of RMB2.27 billion, up 26% from December 31, 2019, but down from September 30, 2020. The sequential decline was driven mainly by working capital swings and investments in industrial health companies such as Hypervine and Promasio. Looking forward to guidance, there remains much uncertainties globally about the pandemic. While vaccination rates are rising, Risks from different strains are being discussed and there are concerns with losing restrictions and resuming travel. Europe is currently looking like it will stay largely closed for the near term, while in the U. S. A number of states have dropped mask mandates and college spring break seems to be back in swing, which risks driving new surges. Our guidance reflects this continuing uncertainty as well as Q1 seasonality. For the Q1 2021, management currently expects net revenue to be between RMB1.0 RMB1.15 billion. That outlook is based on the current market conditions and reflects the company management's current and preliminary estimates of market and operating conditions and customer demand, which are all subject to change. This concludes our prepared remarks. We'll now open the call to questions. Operator, please go ahead. Thank you. We will now begin the question and answer session. The first question is from Clive Chiang from Credit Suisse. Please go ahead. Hi, management. Thanks for taking my question. My first question is in regards to, I guess, the Lower than expected sales in 4th quarter. I think, Leon mentioned that Partly, it was due to the, I guess, waiting for the new generation of the products. So the question is, do you see this as an extension of the replacement cycle as a risk And if there is any structural change in the demand? That's my first question. Thank you. Clive, I think I can take this question. The answer to your question is no, right? So as I just Explained in the script, Xiaomi sales job for this quarter is very much driven by number 1, COVID, especially in the International Markets. And number 2, there's certain expectation on the new products which is going to be launched very soon, right? So from that perspective, I think what we experienced in Q4, we think is very much a seasonality pattern rather than a structural issue. I guess, I mean, our forecast for 2021 and also for Q1, The outlook reflects that point and also we believe we should have a solid 2021 based on what we've prepared in Q4 and Q3 for the product introductions. Okay. Thank you very much. Just a follow-up to that question, I guess. Could you remind us what is the current state In terms of geography for Huawei and Niban products? I think The Xiaomi products, I think China Remains as key markets for the Xiaomi product and also the international market is playing a bigger and bigger role. I think overall if you take our own self branded and Xiaomi products together, Europe and the international market Overtakes the Chinese market as our biggest region of sales. The next question is from Andre Lin from Citigroup. Please go ahead. Hi management team. Thank you for taking my question. And I have a question regarding the recent acquisition of Yecon. Can you please Sure. What's your strategy or your plan on the new acquisition and time table if possible? Thank you. Yes. Maybe I will answer this question. I will take this one again, Andre. So there's a few things on Ito, right? So number 1, Ito is actually a minority state investment, which we had Invested in January, so it's not a Q4 event, it's rather than a Q1 event. And then we also don't consolidate Itone in our financial result. And number 2, Ito has its own core business. And I'm not sure if you have noticed that they recently, I think it's last week, Published their annual result and then the net income of Itau actually in 2020 Grow by more than 20% versus 2019. And the third thing which I want to mention here is also very much in line with what we Close before. We want to leveraging the rationale behind taking this minority stake in Ito is that we want to leveraging ZEP Health's core capabilities as well as Ito's access to Chinese domestic capital market. And then by joint hands ZEP and Ito, We're going to expand the healthcare ecosystem for China market in the longer term, right? I think that's Everything we can say about Ito at this moment. Thank you. And I have a follow-up question. Given you have provided your sales guidance for the Q1, Can you please also share with us the unit forecast or current status in the 1st 2 months of this year? And also the when do you think the contribution of the new generation of Nintendo We're kicking and so that will drive the seasonal sales in this year. Thank you. Yes. So I think we have guided we have given the outlook for 2021 Q1 and you just heard that. Last year at the same period, I think our turnover was around RMB 1.0 RMB9 billion and then this year we guide around RMB1 1,000,000,000 to RMB1.15 billion. So we think there's a high chance that our revenue is going to fall between this range. And the 1st 2 months Trent actually provides some confidence on this outlook, Right. And looking at the Xiaomi's new product, I cannot Say too much about the exact timing, but the only thing I can tell you is that the Mi Band 6 is coming out very, very soon. Okay, got it. Thank you. I have no further questions. The next question is from Joy Lee from Investor Securities. Please go ahead. Thanks for taking my question. Congratulations on this quarter performance in spite of the unfavorable environment. I have several questions to follow-up. Well, my first question is about health monitoring. Could the management team give us more color on how we Operate with insurance company like social insurance or even hospitals, since this could be a potentially huge market? I think we have Mike to answer. Yes. This is Mike Yang. Yes, let me I'll try to answer the question. Yes. So, as Wang mentioned in the script, The data analytic is one of our strengths, pen pillar, especially the pie Now, Gene, algorithm, which we acquired. When we work with the insurance companies, Basically, Pie can provide value in at least a couple of ways. First is, Pie can help increase customer engagement for the insurance companies because Monitoring the PIE score, PIE Health is a it can be a customer engagement tool to increase the customer engagement for the insurance company. Secondly, because PIE is scientifically proven With many years of study and a large population, insurance companies can use PIE score as a factor in their actuary formula and to have in their underwriting, whether it's For health insurance or for life insurance, both can use the PIE score to help them improve their underwriting. So this is a second way that we're working with insurance companies to integrate the PI's technology. And also, GenV, Ruby mentioned earlier has given has made a lot of study and published The PIE score is a very effective tool for both these services for insurance companies. Is that Asha Cartu? Yes. Yes. Thank you. And my second question is that, It's easy to understand that company's advantage in 2B market since the company's product resembles a 3rd party hardware supplier with leading technology. However, I wonder how to build a stronger brand recognition and what is the Target shipment or revenue mix between Xiaomi and self branded products. Yes. That's a good question. Now, so I think you have seen our 20 F in 2019. The current weight between Xiaomi and self branded products is around 70%, 30% from an Absolute revenue value perspective, right? And I think in Q gradually throughout the year, We're seeing this trend gradually moving for more self branded products in the weight versus Xiaomi, Although the moving is gradual, right? So because Xiaomi was such a big contribution factor to our top line and any move For our self branded product to gain the weight actually require the self branded products, sales or revenue growth to be doubled or tripled the Xiaomi growth rate in order to change that mix. So to answer your question, I think starting from Q3 and going into Q4 and Q1, we're seeing this Self branded product mix in the overall sales mix taking place. So the self branded products as an overall company's portfolio is gradually gaining weight. But as I just mentioned, any changes to a significant amount will require a few quarters for you to see such significant or structural change. Okay, got it. And my third question is about the pain rate of your health service. Or could you share us the current pain rate and how this Rate would go up in the future and how would that contribute to our revenue mix? I think it's as we mentioned before, most of these service or health services Our I think there are 2 things. 1 is actually the PiHealth and Prudential And then the January type of insurance tech type of cooperation. So these type of The revenue out of these type of services is going to come out in Second half of twenty twenty one based on our latest forecast, right? And then if you're talking about The more industrial health as what we mentioned today early on in the script, the investments of the X-ray machines, MRI machines that's going to be a long term investments and it's going to be very much self sustaining like the business model of white labeling, right? And in order for you to see a significant revenue of that Part of the business coming up, I probably it's going to be a year out. So probably you will see something Coming up in early 2022 or mid-twenty 22. That's our best estimation at this moment in time. Okay, got it. And I have one last question is how the shipment volume of 2nd generation of Huangshan and with the industrial shortage impact the supply of our chips. I think we cannot disclose the specific information on a product line or so. But as we mentioned in the script early on that the Huangshan 2 is being rolling out to all the self branded of our products as we go, right? So that progress is being carried out as we speak. And then, yes, we also have noticed that there is a shortage of the IC chips across the industry. And for that reason, we're also piling up some of the inventories for the key components of the IC Chips also for our smartwatch products. So you will see a little bit of that in the inventory number Of our balance sheet probably in Q1. Okay, got it. I have no further questions. Thank you. The next question is from Jacky He from China Renaissance. Please go ahead. Hi, management. Thank you for taking my question. And I only have a little question. For the next Quarter on whole year, could you give us some guidance on the shipments and ASP for Xiaomi XL branded products? Thanks. Yes. Now, so I think we have already given the outlook for Q1. And then on the full year basis, normally we don't give that outlook, but I think based on what we're seeing and also there's a caveat on How bad the COVID in the national market and how fast we can resume the back to normal type of working pattern. We believe at this moment that the full year sales growth for the company overall taking the Xiaomi plus the self branded products Should be at least at the same pace of the growth rate of 2020, if not more, Right. On the ASP part, ASP is actually one of those metrics that is affected by timing of product introductions and seasonality as well as the product mix changes. So we want to be very careful about its use. So for the full year, if you look at the combined ASP, it declined slightly versus last year, which was the 2019. The ASP for Xiaomi products for the year was flat and the ASP for our own branded products was up dramatically. So and we think the ASP trend for our own branded products will continue to expand in the coming quarters. I hope that to some extent answers your questions. Yes, I see. That's really helpful. Thank you. As there are no further questions, I'd like to turn the call back over to the company for closing remarks. Thank you once again. Thank you once again for joining us today. If you have further questions, Please feel free to contact ZEP's Investor Relations department. This concludes this conference call. You may now Please connect your lines. Thank you. This concludes this conference call. You may now disconnect your lines. Thank you.