Live broadcast adjustments are expected to stabilize by the end of the third quarter (Tencent Music 2Q23 conference call minutes)

The following are key points from the 2Q23 earnings conference call of Tencent Music.US. For an interpretation of the financial report, please refer to the article "Tencent Music: Business Adjustments, Continued Bottoming Out."

I. Management Report

1. In July, the TMEA ceremony was held in Macau, bringing together more than 80 renowned musicians from home and abroad. It attracted an offline audience of 40,000 and generated over 10 billion online topic readings.

2. In 2Q23, Tencent Music.US renewed its contract with Fenghua Records and released physical albums such as "Liu Yanfen" by Yi Yangqianxi and digital albums such as "Happy Weekend" by Li Yuchun.

3. Expanding vertical music content, the hip-hop label Milestone Records joined the platform, adding over 440 hip-hop songs, including the exclusive release of some new tracks for 30 days.

4. In terms of technology, the all-in-one music production and promotion platform "Qimingxing" has been upgraded, integrating a full set of AIGC music production tools. As of 2Q23, the music transactions on the Qimingxing platform have exceeded 10 million RMB.

II. Analyst Q&A

Q1: There are differences in the trends of online music and social entertainment. How does the company expect the two businesses to perform in the coming quarters?

In the long term, will the adjustment in social entertainment lead to a permanent loss of revenue (high risk)? Will it take at least four quarters for this adjustment to no longer affect the YoY growth rate?

A: Online music accounted for 60% of the revenue this quarter, compared to only 30% five years ago. Subscriptions accounted for 40% of the total revenue, which demonstrates the effectiveness of our continuous expansion and consolidation of core music services. Therefore, we are confident in the future sustainable development.

The revenue from online music remains stable, with the number of paying users and ARPPU continuing to grow. This will continue to drive revenue and profit growth.

As for the adjustments in certain live broadcasts, social entertainment is expected to continue facing pressure. The impact of the live broadcast adjustments occurred in the latter part of the second quarter, which means the downward pressure will continue into the second half of the year.

However, barring any major unexpected events,

we expect a single-digit YoY decline in total revenue this year, but further improvement in the annual revenue and profit margin.

Q2: What is the reason for the adjustment in social entertainment? What are the expectations for social entertainment for the whole year? When will it hit bottom and rebound?

A: Creating a live broadcast atmosphere centered around music for users allows us to better control potential risks the platform may face in the future.

Therefore, despite the short-term pressure, it lays a foundation for the healthy development of the platform in the long run. The revenue from social entertainment will be reset to a lower level, and the impact will stabilize by the end of the third quarter, with monthly revenue in Q4 being relatively stable. Q3: Goals and timeline for future subscription business?

A: We expect subscription revenue to maintain a healthy growth trend. This is due to years of market education, encouraging users to cultivate a mindset of music consumption, and supporting copyright-protected music. We will enrich member benefits, such as audio quality and sound effects.

For users with higher expectations for audio quality and additional demands for usage scenarios, we will provide higher-priced product options. In addition to the Super VIP and other IoT memberships, we launched a premium couple package in the second quarter.

Q4: Considerations regarding share buybacks and dividends?

A: We have previously announced a share buyback plan, but stock repurchases have not yet been conducted. If suitable opportunities arise, especially during periods of weak stock prices, we will actively seek opportunities for buybacks.

Q5: Latest developments regarding AIGC? How does it empower current business?

A: We mainly focus on the application layer of large models and will explore more applications in the membership area. However, specific application scenarios still need to be explored.

(1) In terms of content, we hope to provide assistance to creators in content production. In Q2, we released "Qimingxing" which provides tools including AI lyric writing, assisted music separation, intelligent sheet music, and intelligent cover design to enhance the efficiency of music creation for musicians.

Currently, it is still assisting in creation, but the path to generating AI songs end-to-end still needs further observation.

(2) Kugou has released sound production functions, Zero Shot and Few Shot, which can generate sound libraries and use them to create songs in different styles and languages.

(3) In terms of user interaction, in Q2, we introduced a virtual idol named "Xiaoqin" who can accompany users in listening to music, recommend songs based on user attributes, and engage in conversations to provide evaluations or emotional exchanges related to songs. Many users treat Xiaoqin as a real person for casual chats.

Xiaoqin can also provide AI comments based on works, promoting music creation and interaction among musicians.

(4) In the live streaming scenario, we pioneered the business model of AI gifting, generating customized and personalized gifts based on different prompts.

(5) In the social aspect, we launched the AI social app "Weiban", where users can choose to have conversations with different featured objects (such as game characters). The AI bot can send voice messages, post on Moments, and share videos, creating a more realistic companionship experience.

Q6: Future gross profit margin expectations? Net profit trend for the second half of the year?

A: The gross profit margin in Q2 increased by 44% compared to the same period last year, marking continuous improvement for 5 consecutive quarters. This improvement can be attributed to 6 factors: growth in subscription ARPPU, advertising growth, increase in proprietary content, optimization of content cost models, reduction in copyright costs for long audio, and bandwidth optimization.

In terms of operating expenses, we are focused on improving operational efficiency. ROI-driven marketing strategies have led to a continuous year-on-year decrease in sales expenses for 6 consecutive quarters, and we expect this trend to continue.

We will further optimize operations, improve personnel efficiency, enhance the profitability of our business and products, and adjust personnel allocation based on the profitability of the business. We will also invest in new content opportunities.

We expect the adjusted net profit to remain stable compared to the previous year, but the profit margin will increase. Q7: Strategy for future content?

A: It's great to see the continuous increase in original content. We will focus on nurturing independent musicians by:

(1) Providing offline performance opportunities and other exposure through the musician platform. We will launch themed programs to encourage innovative content production and offer various business opportunities, including royalties, digital albums, and overseas distribution.

(2) Establishing an all-in-one music production and promotion platform that facilitates the production of demos and finished products. This platform will connect content creators with music labels, enabling quick and efficient resource integration.

(3) Collaborating with well-known IPs both domestically and internationally to enhance our influence. For example, collaborating with music artists to create theme songs for popular games such as "King of Glory," "Peace Elite," "Douluo Continent," and "Spider-Man."

(4) Leveraging our rich internal resources, including three music platforms and cooperation with Tencent's ecosystem. We will promote advertisements on WeChat official accounts and video channels, reaching a large number of users.

Furthermore, exploring distribution in overseas markets will be meaningful for the international expansion of original Chinese music.

Q8: Progress in IoT scenarios?

A: IoT mainly focuses on in-car systems, smart speakers, and televisions. Both user base and revenue have shown good growth. We have achieved a decent market share with Kuwo in-car and QQ Music in-car.

In the in-car scenario, we have established deep collaborations with BYD, SAIC, FAW-Volkswagen, Mercedes-Benz, and Tesla. In Q2, we released QQ Music in-car version 2.0, which received positive user feedback.

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