Continuously topping the box office, but struggling to take off: CHINA LIT

Since the concept of short dramas became popular at the end of last year, the market has been talking about China's Netflix and Disney, with China Literature having the largest IP reserves, and its potential growth has attracted more investors' attention.

In the first half of the year, China Literature performed well in its works, delivering four hit works: "Hot and Spicy", "Joy of Life 2", "Walking with the Phoenix", and "The Story of Roses", living up to the market and audience expectations. China Literature has proven to the market its ability to turn IPs from its "IP arsenal" into hit works.

However, to the disappointment of investors, China Literature is the worst-performing Tencent-related company in terms of stock price performance this year. Tencent, its parent company, has risen by nearly 30% this year, Tencent Music Entertainment (TME) has surged by over 70% at its peak this year, and even though it has now dropped back by half, it still has an increase of nearly 20%. Only China Literature has dropped by nearly 15% this year, making the growth story of China Literature's "China Netflix" a bit convoluted.

I. Transition between New and Old Businesses

Looking at the interim report performance, with the contribution of four hit drama series in the first half of the year, copyright income will certainly not be lacking. The market is mainly concerned about whether the drag from the online literature business can be alleviated, allowing China Literature to quickly transition through the phase of handing over between new and old businesses.

In the first half of 2024, China Literature's revenue was 41.9 billion yuan, a year-on-year increase of 27.7%, exceeding the market's expected 40 billion yuan. The core operating profit was 380 million yuan, a year-on-year increase of 9.1%, lower than the market's expected 520 million yuan. It is worth mentioning that out of the 3.8 billion core profit, 3 billion in profit came from the copyright contribution of New Classics Media.

Breaking it down, the online business revenue of online literature was 19.4 billion yuan, a year-on-year decrease of 4.8%, slightly lower than market expectations. This business accounts for 46.3% of total revenue, slightly down from 60% in the same period last year. Among them, China Literature's own platform revenue was 1.694 billion yuan, a 4% year-on-year decrease; Tencent's self-operated channels generated 131 million yuan, a 26.2% year-on-year decrease.

In terms of operational data, since 2022, China Literature has been focusing on developing paid reading, shrinking Tencent and third-party distribution channels, and raising prices for its own platform, driving away some non-paying customers, aiming to retain customers with a strong willingness to pay by raising prices. While this approach can retain some loyal customers, it goes against the economic cycle and will also affect the decrease in advertising revenue brought by free channels.

In the first half of the year, China Literature's average monthly active users dropped from 211 million in the same period last year to 176 million, a decrease of nearly 17%, with the lost customers mostly being attracted by free platforms or pirated resources. The good news is that the average monthly paying users increased slightly by 0.4% to 8.8 million compared to the same period last year, although the average user payment amount decreased from 32.3 yuan to 31.8 yuan However, there are signs of a bottom for paid users.

China Literature wants to "purify" paid users through price increases, which is a point that the market is not very optimistic about.

Because it is difficult to combat pirated novels, even if authors sue the pirates, the two sides may drag on for a long time. The cost of spreading pirated online literature is low, leading to more and more piracy, creating a vicious cycle that affects the entire paid ecosystem of online literature. Users may not think much about it, they will only think why pay when they can read for free? This also applies to e-books, as it is too easy to find pirated resources.

China Literature actively narrows down free channels, increasing the overall number of paid users to 5%, reaching a historical high. However, this has allowed free platforms to take away many users from China Literature, leading to a decrease in advertising revenue. Nevertheless, in the long run, cultivating users' willingness to pay is definitely a good thing. If the online literature business can stop declining next quarter, it will be beneficial for the market to continue telling new growth stories about China Literature's IP copyright fees.

2. A popular drama, but a business that doesn't make money

Looking at the key copyright income, the copyright operating income in the first half of the year was 2.203 billion yuan, an 85.1% year-on-year increase, far exceeding the market's expected 1.71 billion yuan.

Among them, New Classics Media's revenue was 1.05 billion yuan, a year-on-year increase of 93.2%, with a net profit of 300 million yuan, almost doubling year-on-year. Excluding New Classics Media, the copyright income was 1.153 billion yuan, a 78.3% year-on-year increase. This part refers to the IP promoted externally, such as revenue sharing through blind boxes, action figures, peripherals, etc.

Although China Literature's IP income performance is very good, it falls short of the market's higher expectations for China Literature. The "mere" 1 billion revenue generating 300 million profit from New Classics Media cannot satisfy the market's appetite.

After this interim report, new concerns have emerged in the market. One is the old issue of whether New Classics Media can continue to create explosive IP. Judging from the performance of the dramas in the first half of the year, it should meet market expectations, indicating its capability.

The new issue is that even though the works are very popular, it seems that the copyright income is not very profitable?

For example, among the four hit dramas in the first half of the year, Jia Ling's "Hi, Mom" had a final box office of 3.5 billion yuan, ranking first in this year's domestic box office rankings; "Joy of Life 2," anticipated by the audience for 5 years, garnered 2.646 billion views in the first half of the year, ranking first in this year's domestic TV drama viewing rankings; "The Long Ballad" had a total viewing of 2.434 billion, ranking second; "The Story of the Rose" had a viewing of 1.42 billion, also ranking among the top.

From the statistics of hot topics on Douyin, the top three in terms of views produced by Xinli Media, including "Joy of Life 2", "Walking with Phoenix", and "The Story of Roses", have outstanding quality with no doubt.

However, looking at it from a different perspective, achieving a revenue of 1 billion and a profit of 300 million by Xinli Media for dominating the top of the box office in the first half of the year and the top three in TV drama views, what kind of series would they need to produce in the future to further increase their income? It seems that the ceiling for income from series IPs is not very high.

Especially considering that the number of series that can be released each year is limited, it's not possible to have a hit every month, right? According to the series plan, Xinli Media plans to release 6-7 series this year, with 4 major IPs already having 3 aired in the first half of the year. For the upcoming ones in the second half of the year, the market's expectations are not as high as "Joy of Life 2" and "Walking with Phoenix". If the performance of the series in the second half of the year declines, the royalties in the second half of the year may also show a decrease compared to the first half.

Moreover, whether the new series can become popular and break viewing records again, even Netflix dares not guarantee.

Looking at the future profit performance of Xinli Media optimistically, assuming that the income level in the second half of the year is the same as in the first half, the full year would only contribute to a revenue of 20 billion and a profit level of 6-7 billion? This does not meet the high expectations given by the capital market, so after the interim report, the stock price actually fell, becoming the worst-performing company in the Tencent system this year.

Conclusion

In the future, in order to increase the copyright income of China Literature, if they want to continue telling the growth story of the "little Netflix", they may need to put more effort into the IP surrounding it. After all, China Literature has not disclosed how the income and costs of series production are, just looking at the 8 production companies involved in "Joy of Life 2".

After this interim report, it is possible that the series produced by China Literature will be very popular, but the income expectations given by the market will become more conservative. If the revenue sharing mechanism can be more transparent, it would be better. However, with such a large arsenal of IPs, China Literature's IP journey is just beginning