Earnings Call: Q3 2020

Nov 23, 2020

Hello, ladies and gentlemen. Thank you for standing by for Huami Corporation's 3rd quarter 2020 earnings conference call. At this time all participants are in a listen only mode. Today's conference call is being recorded. I will now turn the call over to your host, Ms. Grace Schwab, director of investor relations for the company. Please go ahead, Grace. Hello, everyone, and welcome to Huami Corporation's 3rd quarter 2020 earnings conference call. The company's financial and operating results were issued issued in a press release for our newswire services earlier today and are posted online. You can also view the earnings press release and the slide to which we will refer on this call by visiting the IR section of the company's website at www.huami.com/invest Participating in today's call are Mr. Huang Wang, our Chairman of the Board of Directors and Chief Executive Officer and Ms. Leo Chen Dun, 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 Yang, 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 provision 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 US 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 Huami's earnings press release and this conference call include discussions of unaudited GAAP financial information as well as unaudited non GAAP financial measures. Huami's press release contains a reconciliation of the unaudited non GAAP measures to the unaudited most directly comparable GAAP measures. I'll now turn the call over to our CEO, Mr. Fan Wang. Please go ahead. Hello, everyone. Thank you for joining our conference call today. We are pleased to report another quarter of solid financial results, highlighted by revenue growth of 20% year over year that exceeded our expectations. Despite the price issues due to the COVID 19, that park partially dampened results. Our top line results were complemented by bottom line growth visibility. Together, this test by to the resonance of our portfolio of smart health products and services. As well as our efficient product development capability. We have launched 5 new smartwatch products in the third quarter. I am pleased with our development pace through address, development processes, our team executed according to plan. And our product portfolio is well positioned for the global history's holiday season. Innovation has always been the core of our DNA. It drives our R&D development and supports our comprehensive health and fitness ecosystem. Refracting the We recorded a number of new product upgrades and launches in the first quarter. In September, we upgraded our most popular product line, the GTS and GDR smart watches. With numerous technology enriched functionalities. Now, the upgraded version are fully equipped with features that support blockchain monitoring among other important applications block oxygen saturation data is an essential metric used to monitor breathing quality. Our classic and sports variants of the Mainspace GTR 2, as well as other select smart wearables. Are also upgraded with our newly launched bio tracker 2 pvg24 by 7 heart rate sensor. This sensor supports 5 biological data engines, and it's the most versatile and precise bio center. We have developed We also launched our new app market ZEP brand as previously announced in August. The zipline brings a more comprehensive and professional health and fitness management experience to users, leveraging our expertise of smart wearable technology, In the third quarter, we also extended our cooperation agreement with our strategic partner, Xiaomi. The Mi Band is an important product line to us and to the global value focused market. And we are pleased to continue to work with Xiaomi on that product line. Now turning to our global expansion experts. Our main space product achieved strong market position in many of the international markets we serve. According to the IDC report, We have been positioned at number 1 market share in Spain and Indonesia for several quarters. In IDC's 2nd quarter report, we experienced a 300 23.7% growth in the India market and 241.6 percent in the Western Europe market, contribute by our growing brand recognition, strengthening sales and market strategy as well as distribution channels. Our international shipments as a percentage of total was 49.5 percent in the third quarter, with even our largest market like Europe and SEA are still under the impact of COVID-nineteen 19. Huami and Xiaomi derive activation data further It illustrates our globalization with the flagpole increase in the number of countries with sizeable activations in the third quarter this year versus last year. Starting in September, 2 of our most popular smart watch lines, the AmazfitBS and the Amazfit GTF become available for purchase in America at over 2800 Walmart retail stores. This is the first time that consumers can buy them at Walmart Stores. We believe there's a strong fit between these value priced lines and Walmart target shoppers. We are pleased to have expanded our retail channel distribution with this large partner, and we keep exploring the opportunities with other global large channels. It is worth remembering that the global make a change. Our personal health awareness was well in place before the pandemic. And the last 10 months has brought awareness to the to a compelling level. We also note that leading industry analysts are unified in their forecast for continued strong demand for smart wearables well into the future. The variety of form factors keeps expanding and we are expanding right along this The global opportunity remains robust for Wami, especially with our products market positions, all representing exceptional value and feature sets at every price point. This new product and services development as well as geographic expansion are all part of our continuous execution on our connect health with technology strategy. In addition, we are now doing a academic research project co operated with more than 20 different hospitals, research institutes, and pharmaceutical companies in both China and Overseas to help monitor users help condition by using our smart wearable devices. To name a few, we are now working with the the first, affiliated hospital of Guangzhou Medical College and Doctor. Zheng Nanshan's team on a chosen asthma early warning project. We identify sleep as a key area of interest for our users and are working with the Stanford Sleep Machine Center in the US and others to collect more data and perform analysis. The ultimate objective of this academic research project will be to offer our users more dimensions of health care services. Including pre disease warning and more comprehensive health condition analysis in the future. Leveraging our devices' ability to gather high quality data consistently from every model regardless of price. On a final topic, I want to note 2 key warning team additions. At our board meeting last Friday, we added a new independent director to Huami's fall, I'm very pleased that Mr. Bing Sei recently retired from leading worldwide sales at Texas Instruments has agreed to join our board. As an independent director, being yourself on the board's audits, compensation, and nominating and cooperate and corporate governance committees. Next, I want to formally introduce our new Chief Financial Officer, Mr. Leon Chung. Leon comes to Huami from Royal Phillips, where he was most recently global head of Finance for Philip's domestic plan division. He brings to us 17 years of expenses experienced in Accounting, Financial Management And Manufacturing perspective on Europe and many other key international markets and strategic transaction experience that I believe will help Huami accentuate in our next phase of growth. Leon, Welcome to your first Huami earnings call. We are glad to help you as part of our team and looking forward to your leadership as we continue to execute and grow the business. The floor is yours. Thank you, Wong. I'm excited to join the Huami family. I believe that was my Global Consumer Health experience that can help the company focus and manage its sustainable growth. Huami has grown very fast and has many of on both the health and fitness sector and consumer industrial sites of healthcare. Bringing building off my 17 years of strategic operational financial and accounting management experience at Philips. I will be focusing on continuing to improve management processes planning and financial controls. I anticipate looking at areas such as working capital management, cash flow and return on invested capital. I also look forward to leveraging my experience to help manage the company's global expansion in the future. So let's begin talking about 3rd quarter results with sales. The COVID-nineteen virus continued to challenge companies and their business planning around the world. It both helped and hurt Huami in third quarter. During the summer quarter, COVID cases abated in many regions, and allowed local economies to open up more. People got outside to exercise and to live their lives. That was good for the industry and Wami shipped 15,900,000 units in the quarter, up 16.1% from a year ago 3rd quarter, and driving a revenue increase of 20%. The largest portion of that increase was driven by the Xiaomi Mi Band 5 and we also began shipping a number of our own brand new products, as Wong just described, where the virus hurt us was in some supply chain challenges, which left us a short of new Huami product inventory in a number of locations. And forced the delay of some of our new product launches from the beginning to the end of the third quarter. I will have more to say on the impact of the virus when I talk about the look ahead and guidance. But first, I want to focus on just a few key numbers, including gross margin and operating expenses. That I think are the most important for understanding what happened in the quarter and that shape our outlook. Gross margin can be affected by product mix, product launch timing and product life cycles, including model upgrades. The 460 basis point decrease in gross margin from a year ago quarter was predominantly driven by those effects. In our specific case, gross margin can be impacted by the proportional split between products which we make sell to Xiaomi and also the products we bring to market under our own brands. The split of products between Xiaomi and Fami was the same as in the year ago quarter, reflecting nearly identical patterns of old model winding down and new model quality shipments for Xiaomi. In this year's quarter, that was the new Xiaomi Mi Band 5. Gross margin on Xiaomi products in 2020 third quarter was 400 basis points lower than the year ago quarter. This much larger volume of Xiaomi products versus our own branded products in the quarter was primary driver of the overall lower gross margin. Let me next highlight operating expenses, as has been true all the year, sales and marketing and G and A expenses have been up year over year, quite significantly in some areas. As you saw in today's press release, R and D was up 38.8 percent year over year and comprised 7.7% of the revenue compared to 6.7% a year ago. Sales and marketing expenses was up 104.2% year over year, and comprised 5.2 percent of revenue compared to 3 point percent a year ago. G and A increased 30.8% year over year, comprising 4.1% of the revenue compared to 3.7% a year ago. R and D has achieved a scale which we believe can continue to drive strong new product development going forward. Sales and marketing expenses vary with seasonality and obviously it is important to support key selling seasons such as the year end holidays and as we expand geographically. But we expect to apply some additional process prior to sales and marketing investments with the highest sales impact and return on investment through the fourth quarter and into the next year. Total operating expenses in the third quarter 2020 was up 51.3% year over year, comprising 17% of revenue compared to 13.5% in the year ago quarter. Given the answer of the pandemic for the foreseeable future, we're going to manage operating expenses to a percentage of sales target at about where they are now. In order to maintain profitability. The company's cash position continued to be strong finishing the 3rd quarter with cash and cash equivalents of RMB 2556,000,000, up 42% from December 31, 2019. As I said, the new resurgence of cases in our key markets of Europe and Russia and the U S, are increasingly and increasingly other areas caused us to tamper our outlook for 4th quarter sales. How the impact of the virus will play out through the holidays is very uncertain. Retailers in several key geographies after reopening during summer are facing new lockdowns according to many recent media reports. Our guidance reflects this uncertainty for fourth quarter 2020 management currently expect net revenues to be between RMB1.95 billion and RMB2.15 1,000,000,000. That outlook is based on the current market conditions and reflects the company management's current preliminary estimates of market and operating conditions and customer demand, which are all subject to change. This concludes our prepared remarks. Thank you. Please immediately repeat your question in English. The first question today comes from Kainuong of Credit Suisse. Please go ahead. Thanks, thanks for taking my questions. I have, like, maybe 2 to 3 questions. So the first one is actually wanted to adjust in a gross margin. Because, I I also, I heard that the, of all product mix is the main reason but do you think that, this is also, more loan loan lasting issue going into 4th quarter and also the first half next year because We also see, the, we also see Sammy is actually pushing more pushing harder, to the for those promotion and also launching product in the IoT business. So I think they want to, drive the recovery in the IoT business for the second half. And also at next year, And so would this becomes, more like long lasting, I mean, into, like, coming quarters. In terms of this, like, Xiaomi port, mix issue. And I also wanna chat if there's any impact from the currency, the, foreign exchange in terms of the margin, because we also see the RMP appreciation in the past quarter. And going forward, any impact on this? That's the first related to the gross margin, first question. The second one is about, the, I would say the the the the sales and the overall, because I, we see this, like, sales and marketing and and also the R and D expenses continue to increase. And but the, Amazfit south is at actually, taking some time to, pick up. And, of, of course, some is due to the COVID 19. But how to like, how could we expect that the the the the the investment in the R and D and also sales and marketing can be how first thing in the future. So, yeah, just wanted to chat this. Thanks. Okay. Now, Thank you very much. Those are good questions. So let me, try to answer the first question first, right? On the gross margin, I think you're right that, it is always Xiaomi's goal to provide high quality cost effective products to the end customers. And we continue to also pack cutting edge opportunities and sensors into our better always than the next the previous generation, right? So, it is true that the gross margin, from the Xiaomi band 5 actually lower than the previous generation last year. However, we're actually looking for scale and operating leverage from the Xiaomi products. Right? On the other hand, you also noticed that, our own brand itself is also picking up, right? And our own brand sells is actually, relative carries a relatively high gross margin compared to the Xiaomi products, right? So in the end, with the effort of the product shipments of our own brands and also the continued growth of the Xiaomi products in the next year. We at least expect the gross margin to stay at the current level if and maybe in the second half of next year to expand a little bit. I think that answers on the gross margin part. On the currency part, I think we're more looking at the natural situation because in the end, we sell, quite a bit of the products overseas and receive dollars. And also most of our purchase are also paid in dollars. So in this case, setting along the Chinese market because that is not subject to currency fluctuation on the, foreign exchanges of the dollar impact, I think it's relatively minimal to us. So I don't see any of this adverse currency impact coming out of dollars. So I guess that concludes on the gross margin part. To coming back on your question on OpEx, right? I think we are always a long term kind of thinking and we apply to that to our, management and, how we manage our business going forward, right? So there's some saying saying never waste a crisis, right? So in this time, we try to invest ahead of time and try to build the foundation for our product launches for next year and also to build a network of our distributions and channels overseas, for next year. We believe that when the coronavirus is a little bit, getting away, then it is good and probably is going to be second half of next year. That will be the time you will see a rebound of our performance. The next question comes from Joey Lee of Industrial Securities. Please go ahead. My first question is, could the house monitor, monitor, function turn smartwatches and smart bands into a more widely used device like TWS Airform. And what are the co barriers of these 2 kinds of products? Do we have some medical certification that differentiate our products from others. And that is my first question. I think probably I will be the person to answer your question again. Yes, we see adopting, consumers adopting more and more, the usage of, health monitoring functionalities on the smartwatch, during the pandemic, right? So that's why you see also our competitors and all the usage of the data on the rest are picking up, right? Whether or not it will become a TWS market. I think it's too early to tell, but as you see, both Apple and other big brands, they have they're actually packing more and more functionalities, like like, ECG, and stuff like, SEO to Max into their, watches. I think it's a good sign and then, and also a trend on where the industry is moving, right? And yes, there's definitely a barrier to it because you have the difference between a health and fitness device and a medical device, right. And then I think on the medical device part, we're on par, if not better than our key competitors, right? And with regard to if there's any core barriers, the usage of such a data, I think the the FDA approval and the medical devices approval, is going to set us apart, between a casual health fitness player and a serious health player, which we want to be in the future. Okay. Okay. Thank you. My second question is that as the last analyst mentioned, the R and D investments is relatively high in the past 9 months this year. Could management, give more color on what we invest in and how can we improve the property of our device? Okay. Now, so on the R and D actually there's a lot of information which we could disclose a little bit more. And I would definitely refer you to the, press releases, which we did at the beginning of this year around April, May timeframe on what we have invested. I think we have invested in AI. We have invested in, a lot of new functionalities, which will be used in our next generation products. And, not to mention that we have actually, maybe you don't know, we almost refreshed all the product lines, which we currently have, for our own brands, by the end of this year, we have launched, so many products in the course of this quarter. Which should set us apart and also lay a great foundations for next year. I think that's just a glimpse of a few R and D investments, which we did. And, and if you need to know more, please feel free to send a question to our IR, contact and then we'll get back to you. Okay. Okay. Thank you. And I have one last question. We we've heard that Huami have some cooperation with maybe insurance company to promote our health care solution. Could the management share more details on that. Yes. Hi. This is Okay. Go ahead, Mike. Yeah. Okay. Sorry, uh-uh, Leon. Yeah. So, yeah, so, we, in regarding the, insurance companies, it's, you may have heard that, you know, we, partner, Kearny in Asia, with, Prudential Asia. Where they are they have integrated our, pie technology algorithm, into their, into their, pulse app, which is their consumer app, that will be launched in over 11 countries in Asia. And that's just the beginning, our partnership with them. We also, partner with them on data analysis and also, you know, cross selling of products. And, we are also, you know, working on a similar type of fields models. Not only in Asia, but in, Europe, North America, as well as Europe. And, uh-uh, you will see us, announcements, soon where we have, soon where we have, we have, Okay. Okay. Thank you. The next question is a follow-up from Kainuong of Credit Suisse. Please go ahead. Thanks for taking my follow-up questions. So, I noticed that as I pretty high, a pretty large increase in the, stock based compensation in the third quarter. Just wanted to get more idea about, the, the pattern I mean, going forward, we also expect certain, I mean, time thing that there will be some large, stock based compensations expenses. Even though it will not really affect the, the, adjust the earnings, but still wanted to know, the, I mean, the pattern, I mean, going forward. What should we expect on that then? And and and, yeah, and Will will we expect shall we expect the similar level in the 4th quarter as well? So I think the increase of this quarter is as what we mentioned in the press release that it's primarily due to the increasing share based compensation, which we give to a few key to some key employees, right? Whether or not it's going to the same level, is going to, continue into Q4. I think at the moment, my answer is no because the, the previous one, which you saw is, it's pretty much a one off. Which I tied back to some incentive scheme, which we had. At this moment, to the best of my knowledge, I don't see any thing in Q4 popping up. The next question comes from Michelle Cheng of China Renaissance. Please go ahead. Thank you management for taking my questions. So I have two questions. The first one is, I want to know about the current development program of the decrease in channel expansion for Amfleet products. Yes, this is my first question. Thank you. Excuse me. Can you repeat your first question? Yeah. Sure. So my first question is about the current status of the distribution channel expansion for Amazfit products. Okay. No, I get it. So we have actually a very meaningful progress of the Amazfit products channel building in the third quarter. As we mentioned, our stock products at BPS and GTS entered more than 2800 Walmart stores in the 3rd quarter. And we're also now serving, more than 70 count fees and have sales team cover in different regions. We have a strong presence in the universal large platforms like Amazon, Flipkart, and AliExpress, but we're also cooperating with a lot of local partners like, Reliance in India and Swedenoy in Russia. These are only just a few examples of our overseas channels. We'll continue to strengthen our global distributions in the coming quarters. Okay. Thank you. And my second question is about the management outlook for the shipment a Willow Spoke, Shelby Bend, and also Amswade products for next year. Thank you. Normally, we don't guide for the next year, but I can give you some flavor on what it is. Right? I think, on a higher level, the global end market is becoming a relatively mature market. So we would anticipate the meat band product, the Xiaomi band product shipment and a, and ASP to somehow stabilize a little bit or with moderate growth going forward. But on the other hand, you know, the ASP of our own products are much higher than those of the Xiaomi's So I would expect that our own product shipment will continue to grow alongside with gross margin expansion. So but, however, I need to caution you that the COVID-nineteen virus still has an impact on the global and we don't know whenever that is going to stop. So therefore, there's still quite some uncertainties around that topic. I hope that answers your question. I'll give you at least some flavor on what it is. As there are no further questions, Now, I'd like to turn the call back over to the company for closing remarks. Thank you once again for joining us today. If you have further questions, please feel free to contact Huami's Investor Relations department. This concludes this conference call. You may now disconnect your lines. Thank you.