Roblox: Guided cautiously, just to leave room (2Q24 conference call)

The following is the summary of the 2Q24 performance conference call for $Roblox(RBLX.US) . For financial report analysis, please refer to "Roblox: Why is the market still dissatisfied with the guidance?"

I. Overview of Financial Indicators

II. Executive Management Report:

1. Revenue for the second quarter was $8.935 billion, a year-on-year increase of 31%, exceeding expectations between $8.55 billion and $8.8 billion. Bookings were $9.55 billion, a 22% year-on-year increase, also surpassing our guidance range of $8.7 billion to $9 billion.

2. DAU reached a record 79.5 million, a 21% year-on-year increase. Users aged 13 and above showed particularly strong growth, up 26% year-on-year. DAUs aged 13 and above currently account for 58% of total DAUs, showing strong performance in all regions, with the U.S. and Canada being the fastest-growing regions since the first quarter of 2021. Japan, one of the world's largest gaming markets, saw a 56% year-on-year increase in DAUs. DAUs in India increased by 57%, representing a huge potential market for us.

3. Record engagement time of 17.4 billion hours, a 24% year-on-year increase. Similar to DAUs, engagement time increased by 30% year-on-year, benefiting from strong growth in users aged 13 and above. Similar trends were observed in the U.S., Japan, and India, with engagement time in Japan increasing by 66% year-on-year and in India by 60%.

4. Consolidated net loss was $207 million, while the guidance target was $267 million to $265 million. Actual performance exceeded the guidance target by approximately $60 million.

In addition to strong performance, we continue to tightly control fixed costs. Operating cash flow for the second quarter was $151 million, a 433% year-on-year increase. Free cash flow for the second quarter was $112 million, compared to a negative $95.5 million in the same period last year. We continue to see the benefits of all investments in platform quality, while also controlling costs.

5. Infrastructure, trust, and security expenses decreased by 8% year-on-year, with many efficiency measures in infrastructure yielding benefits. AI efficiency continues to be added to our security and review platforms. Personnel expenses remained flat year-on-year However, we would like to point out that we are consolidating some employees to work in the office in San Mateo, rather than remote work. Unfortunately, not all employees are able to relocate, which is one of the reasons for the year-over-year flat performance.

We are indeed continuing to recruit employees, especially in our key growth areas, including our artificial intelligence platform, our security team driving platform integrity and quality, as well as our economic and advertising teams.

6. Three months ago, we shared with everyone during the financial results conference call the measures we are taking to offset the abnormal growth rates seen in the first quarter. Early signs of positive impact can be seen from the second quarter data. We emphasized four key areas. Firstly, on-site operations, including resuming full platform activities in March and kicking off with our hunting event. Following that, we held classic events, and now we are moving on to the next event called "the Games". We discussed the health of the ecosystem. I will discuss this as well as improvements in search and discovery.

7. We talked about improvements in the economic aspect, as well as service quality and excellence. Apart from everything else we are doing in the company, we have indeed been executing these four major initiatives. In terms of search and discovery, we have taken many measures to drive diversity and help our users discover amazing new content. In addition to AI-driven algorithms, we have truly intelligent curation of emerging and newly released content, which we call "today’s PIC". We have also enhanced creators' ability to publish and promote their content, allowing them to purchase sponsored tiles on our homepage, and we have seen more and more content rising to the top of our market.

8. One of the initiatives we shared with everyone is the improvement in pricing dynamics in the Avatar accessories market, which has indeed brought in significant revenue. Our developer community is also working on launching price optimizations that will help developers worldwide. All devices on our platform, from low-end devices to Android devices, will be impacted by a range of metrics. We are continuously improving in terms of original performance, stability, quality, connection time, frame rate, etc., all of which contribute to enhancing our growth rate.

9. Looking ahead to the future, when we went public, we shared growth drivers, and we believe these growth drivers will ultimately lead to our daily active users reaching 1 billion, growing globally, across all age groups, expanding Roblox use cases including gaming, social communication, shopping, entertainment, and learning, and diversifying our economy. All of these are continuing to show growth. I just want to quickly go over it.

10. Currently in the gaming sector, we only occupy a very, very small portion, and in this niche market, we have huge room for development. Our UGC method brings in an extremely long tail of content. Now, we have over 20 experiences on our platform, with DAU exceeding 1 million.

Our creators push content to any device in any language. Our users bring their expressive and personalized avatars from one experience to another through the vibrant social graph and MRSA 3D communication built into the platform. All of this is built on a high-performance, increasingly efficient information platform that not only supports 3D simulation but also increasingly supports AI reasoning. There are several highlights in the gaming field - impression is an exciting product on the platform. From the first quarter to the second quarter of this year, its DAU doubled. It has caused a social sensation on TikTok and is loved by users of all ages on our platform.

Dusty Trip, a new version released in March, has already reached a daily active user count in the millions. FIFA - On June 1st, FIFA launched a major update for "FIFA World," including a new tycoon-style game. Since the update, their total visits have exceeded 22 million, with a 20% increase in users aged 18 and above in the past 90 days.

11. In the advertising and shopping fields, I just want to emphasize the continuous growth and progress we are seeing. We have launched video advertising products, enhanced the self-service ad manager, and introduced third-party integrations with IAS and PubMatic.

Currently, we are testing a real shopping experience in Roblox with partners like Walmart and e.l.f. Beauty. In the second quarter, the total number of brand activations has exceeded 400, nearly double compared to the same period last year. There are also several very interesting new brand partnerships. You may have heard of IKEA's coworker, a virtual IKEA store that hires real-life employees to work in the virtual IKEA store. Netflix has launched their enduring IP center in the next world. We have also seen activities from "Shrek," "Despicable Me," and "Six Flags." New artists have emerged on the platform, including the Rolling Stones, Ice Spice, and we also held a concert with partner Visa as part of the Olympics. We will share more updates at the developer conference in September.

12. Lastly, I would like to share that our CFO Mike has decided to leave Roblox to pursue his personal interests and focus on his next chapter. Mike and I will jointly initiate the succession process. During the search for new leadership and the transition period, Mike will continue to serve as our CFO, and we expect this to take some time.

I just want to emphasize that Mike joined the company in 2018. Over the past 6 years, under Mike's leadership and contribution, we have had a significant impact across the company. As a true part of our journey, he helped us go public, helped investors, employees, and board members understand how the business operates, and truly explained how we operate our business based on cash and bookings, which has indeed helped drive our growth The team established by Mike is absolutely amazing and has made a great contribution to our developme

13. The highlight of this quarter is indeed the decrease in operational leverage. When you look at the performance in the first quarter, you will realize the importance of leverage. We have been discussing how to reduce fixed costs and how to leverage fixed costs, which actually involves two aspects:

(1) On one hand, it is the optimization of infrastructure, trust, and security costs. The metric we focus on is the service cost per 1,000 hours. You can refer to our supplementary materials for calculation, which are now available on the investor relations website. This is our KPI. It is also the focus of the team. Over the past year, we have significantly reduced this number. In the second quarter of last year, our 1000-hour service cost was around $12.75; this quarter it is $9.61, a decrease of 25%. If you look at the proportion of infrastructure, trust, and security in bookings, this number has decreased from 17% to 13%. Therefore, this is an important part of operational leverage, which requires a lot of technology, and we plan to continue to improve efficiency in this area.

(2) On the other hand, it is about layoffs, as Dave mentioned some office consolidation situations. Now, if you look at - again, these numbers can be seen in our supplementary materials, the latest 12-month average bookings per capita is a metric we focus on. It was about 1.3 million this time last year, and this year it is 1.6 million, an increase of about 20%. At the same time, our per capita costs have been well controlled. Therefore, due to gaining fixed cost leverage in terms of headcount, the proportion of personnel costs to bookings has decreased from 26% in the same period last year to 21% this quarter. Therefore, the overall improvement in operating profit margin is very strong, far exceeding the 100 to 300 basis points we talked about on Investor Day, which has laid a good foundation for us.

Capital expenditures were about $334 million last year. This year, it will be approximately $180 million. Another thing we talked about on Investor Day is free cash flow efficiency, converting operating cash flow into free cash flow. As Dave mentioned, free cash flow is $112 million, compared to -$95 million last year, which is a significant turnaround.

14. Outlook and Guidance

(1) For the full year, I will discuss guidance here later. We guide for free cash flow to exceed $500 million this year. For the third quarter of 2024, we guide for revenue to be between $860 million and $885 million. This is a year-on-year growth rate of 21% to 24%. In terms of bookings, we expect sales in the third quarter to be between $1 billion and $1.025 billion, with a year-on-year growth rate of 19% to 22%.

(2) Our combined net loss or guidance is between -$275 million and -$255 million, showing significant improvement compared to last year. EBITDA is expected to be between $22 million and $42 million, an increase from last year's -$26.4 million This figure does not include adjustments for deferred revenue and deferred revenue costs, with the total amount of these two deferred items being $113 million. When building the model, analysts must consider these two items. The operating cash flow for the third quarter, net cash provided by operating activities, and cash and cash equivalents, our guidance target is $147 million to $162 million, with a year-on-year growth of 37% at the midpoint.

We can see that operating leverage will continue into the third quarter and the second half of this year. We expect capital expenditures for this quarter to be around $42 million, which means free cash flow will range between -- our guidance target is between $105 million and $120 million, with a year-on-year growth of 89% at the midpoint of our guidance. Therefore, the average level continues to rise, fixed cost leverage continues to play a role, and the growth of free cash flow continues to far exceed our guidance for top-line growth.

(3) For the full year of fiscal year 2024, we have raised almost all metrics.

Now, we expect revenue to be between $3.4 billion and $3.54 billion, with a year-on-year growth of 25% to 26%. Bookings are expected to be between $4.18 billion and $4.23 billion, with a year-on-year growth of 19% to 20%.

Our combined net loss for this year is expected to be between $1.089 billion and $1.09 billion. EBITDA is expected to be between $92 million and $132 million, with deferred revenue at $548 million, deferred revenue increased by $711 million, deferred revenue costs decreased by $163 million, resulting in a net of $548 million.

Cash and cash equivalents or net cash provided by operating activities, our new guidance is $685 million to $715 million, representing a 53% year-on-year growth at the midpoint. Again, this continues to demonstrate very strong operating leverage. Capital expenditures will remain in the range of $180 million. This means our full-year free cash flow guidance will increase to $505 million to $535 million. This represents a 319% increase from the same period last year and about a 35% increase from the guidance given in the previous quarter.

2. Analyst Q&A

Q: You mentioned this in the shareholder letter and also touched on it in your prepared remarks, but I was wondering if you could further elaborate on this, if our calculations are correct, from the midpoint, you have raised guidance for the second half by $85 million. Can you explain the source of the uplift and your confidence in achieving the new guidance?

A: Yes. Three months ago, when we had our conference call, we had already started implementing significant changes, and we began to see levels of improvement in the latter half of April and early March, which we viewed with cautious optimism and reflected in our guidance - which was lower at the time as we did not have enough data to predict the future.

Since that conference call, what we have actually seen is an acceleration of these trends, with strong improvements in user growth, particularly in engagement. **Subsequently, our bookings have also seen growth **Therefore, considering the growth rate of second-quarter bookings and what we have seen at the beginning of the third quarter, we believe we can confidently raise our full-year guidance once again.

Furthermore, we continue to see the operational leverage we expected, which is why we have raised the lower end of the guidance range, including free cash flow. So, the answer is simple, what we saw three months ago is continuing to work very, very well, and in fact, it has accelerated its impact. We feel the platform's health is unprecedentedly good.

Q: On the regulatory front, the U.S. Senate passed two bills yesterday aimed at protecting children's online safety. I'm curious, what impact does this have on the Roblox platform? Will there be a need for increased investment? Will it change your advertising plans and strategies?

A: Yes, a very good question. Let me give you an example from a long time ago. Roblox was the first initiator of the California Age-Appropriate Design Standard. We have always supported legislation that helps protect people's privacy and safety worldwide. Regarding the California Age-Appropriate Design Standard, we have already implemented most of the standard's content and support it. Therefore, we will continue to monitor the legislation. We strongly support legislation that helps ensure safety and privacy. This has been the foundation of our company since its inception.

Q: Still on guidance. Mike, given the strong activity in the second quarter and the strong start to the third quarter, a decline in guidance for the third and fourth quarters may come as a surprise. So, I'm wondering if you would be willing to elaborate further? I know the shareholder letter mentioned conservatism. Perhaps Dave can talk about the new types mentioned in the shareholder letter, such as action sports, racing, what needs to be done to establish a foothold in such new categories? What is the communication process with developers like, and what additional tools do you need to provide them?

A: Frankly, I don't think we will see any significant deceleration in our guidance, but we will continue to maintain a cautious and conservative stance on guidance, hoping to leave ourselves some room. I think that's the most appropriate statement for now. In 90 days, we will come back here, discuss our performance, and see if we are doing better than these numbers. But we feel good about the company's business and want to ensure we continue to exceed the targets we discussed at our Investor Day last November, which is the real goal.

In terms of gaming, we have already mentioned it, but let's talk a bit more. Regardless of where you get your data, the market size of the gaming sector is over $160 billion. So, when we see that our booking guidance for this year may be $420 million, we currently have a market share of 2.5%. The types of games we mentioned include role-playing, combat, platform games, or war experiences. What we share with creators is our platform and infrastructure, game engines, and tools that we believe can support various types of games.

We conducted a survey to highlight game types that we believe are currently underutilized. This is not about our tools but more about making our creator community aware of this. We have seen very good early signals in open-world action sports, racing, social, and cooperative platform games Therefore, we believe that there is space in certain types of games, and our creators have now begun to utilize these spaces.

Q: In the prepared speech, you briefly mentioned business and advertising plans, but could you further elaborate on the progress made in these two areas this quarter and how it helps you think about longer-term opportunities?

A: Yes, I will share some additional information with everyone. We have been researching and implementing in three main areas.

First is the simple traffic-based advertising units on our own platform. You can now see them on our homepage with sponsors' names displayed.

Secondly, we have increased this type of advertising, and we see growth in our creator community. For example, when I mentioned FIFA, they leveraged this to help launch and promote their products. So, even creators on our platform have great opportunities. We have now launched videos for brands, and we have also seen quarterly growth in that department.

Lastly, looking ahead, we also support portals that bring traffic for experiences. We have been implementing more and more measures, such as IAS integration and real-world shopping. We will increasingly provide closed-loop capabilities for brands and truly and more accurately measure the effectiveness of these units, thus continuing to make great progress.

I also want to talk about business growth rates and business forecasts. In the past few months, it has been very clear to us that we have the ability to build a great business through branding, advertising, and shopping, and our core business built over the years is also performing exceptionally well, growing rapidly.

We are well aware that while investing in new businesses, we can continue to develop our core business, which will bring incremental growth to our growth. However, we are very confident that we can continue to achieve the highest growth targets for our core business. As Dave mentioned, our market share is small. We see a strong response from the market to the product changes we have made. The pace of product improvements has been accelerating from last quarter to this quarter. Therefore, for us, this is indeed a new business. It is our core business and the new business we are building.

In the long term, we see brand advertising revenue as a key driver of core business growth of over 20%.

Q: I would like to ask about on-site operational activities. As you hold more of these events, are there any gains or experiences that can be applied to your planned activities? In the last event, do you have anything to share in terms of engagement?

A: I want to emphasize that there is a truly unique opportunity on Roblox, and one of the engines of these live events is that we are a UGC platform. Some of our activities involve 50 or more experiencers who participate in the activities and enhance the features, whether it's classic hunting or current games, with a focus on sports and competitive types.

So, what we have seen from these activities is that they indeed drive DAU and retention. For example, The Classic has brought back many long-time Roblox community members who have been playing games on Roblox for years through some classic means They have other benefits as well. In addition to the AI-driven discovery algorithms, duration, and sponsorship I shared, they can also increase the visibility of various attributes on the platform, promote content discovery and diversity. We are in a unique position to support such amazingly diverse activities. Games are a good example. There are over 20 experiences here that are sports-based, supporting us in conducting sports activities within two weeks, and the content on the gaming platform also reflects this.

Q: First of all, Mike, your work over the past 6 years has been outstanding. Good luck to you, looking forward to seeing your next step. Dave, when you start the internal or external succession process. Given the company's development over the years, can you talk about the requirements for candidates?

A: We are looking for another outstanding CFO. Mike has been excellent, and we want to find another excellent one together.

Q: There are some comments in the shareholder letter about the growth of North American users, as you pointed out, this is the strongest growth during COVID. What do you think is driving the growth of North American users? Where do you think you are on the penetration curve of potential users in the US and Canada? In terms of profit margins, I think the current full-year guidance implies an expansion of profit margins by over 300 basis points this year, which is higher than the 100 to 300 basis points guidance you mentioned on Investor Day. What aspects are better than you initially expected? Does this change your long-term view of the business profit potential?

A: Yes. We emphasize the growth in the North American region, whether it's DAUs, hours, or bookings, this quarter has performed well compared to the same period last year. We all believe this is a validation of what we said three months ago, we value performance, quality, and optimizing our ecosystem, including search and discovery, driving real-time operations, and adjusting our economy.

There is amazing room for development in three aspects.

First, as Roblox is being used spontaneously by more and more people, Roblox has more and more space to become a daily product. As Roblox's performance becomes stronger and supports a wider range of content, we even see very rapid growth in users under 25 years old.

Secondly, we continue to make wonderful adjustments and improvements to our economy, continue to provide quality services, allowing most people on our platform to use Roblox for free. We will continue to see the benefits in this area. Therefore, there is still a lot of room for development in the North American market. As I said, the gaming market is just one aspect, and we can say it has a 2.5% market share.

Finally, there is still a lot of room for development to reach 1 billion daily active users in shopping, entertainment, education, and social communication.

Regarding profit margins, your calculation is correct. The increase in profit margins is due to three factors, which are very consistent with what we said in November last year.

(1) First is the growth in sales, which obviously helps us cover fixed costs, and nothing contributes more to the increase in profit margins than the growth in sales.

(2) Secondly, fixed costs, as we discussed on the call and emphasized in the shareholder letter, we have seen significant leverage in these areas. Our infrastructure and security teams have done an outstanding job, focusing on the key performance indicator of service cost per thousand hours and constantly seeking ways to improve, while enhancing the quality, safety, and civility of all services on our platform.

(3) I believe the team's work is outstanding, leveraging artificial intelligence and all its computational and logical capabilities to make our cost structure better, more efficient, and safer, while lowering costs. Therefore, the 25% year-on-year decrease in service costs is one of the main driving factors, resulting in an increase in profit margins of about 400 basis points.

For us and any company, a very good measure is per capita income. At Roblox, our per capita income has always been high. Last year, this figure rose to $1.6 million, a 20% increase from a year ago. Therefore, the profit margin increased by about 500 basis points year-on-year.

I am pleased to see that these trends will continue, and with our full-year development, your comments on the full year are accurate, and the guidance suggests an increase of over 300 basis points at most. But what is exciting is that we are back to a point where I think we are proving what I have always said, that the unit economics of this business are very favorable.

Now that our fixed costs have fallen, a good way to manage fixed costs in the future is to focus on growth, essentially continuing to invest in things that make you excellent and slightly below the top-line growth rate, which will bring incremental improvements in profit margins in the future.

Therefore, we have done a lot of heavy lifting in 2024. Starting in 2025, I think it will become easier in some ways, as I believe this is the true business unit economics. Yes, as you pointed out, this is reflected in the guidance.

Finally, I would like to highlight with a specific example some of the things Mike mentioned. When we launched voice services on our platform, in order to maintain consistency with our secure and stable foundation, we had to design a way to review and control the security of all voice services. Our voice security team built an artificial intelligence model and voice classifier, and now we can run it extremely efficiently on our own infrastructure. The quality and performance of this model are outstanding, so we have opened a version of it to the community. I believe it is one of the most widely used trend audio models in the open-source community. Therefore, this is an example of running on our own infrastructure, supporting improvements in how our platform operates, and achieving comprehensive cycle efficiency.

Q: In terms of some discoveries, I want to go back to last quarter, where you mentioned seeing some stagnation in content, especially in areas like top experiences. I know you have been improving discovery algorithms to help increase the freshness of content. I am curious, how do these top experiences deal with these algorithm changes? Have you seen them release more frequent updates? Or is long-tail content increasingly emerging?

A: Yes, I want to use the term content sales, I want to use the term non-optimal ecosystem health, it is based on our understanding of content. I emphasized this. I will talk about algorithms, but also emphasized that we have increased the diversity of content, which emerges through our today's PICs, which is true intelligent planning. This also extends to multiple groups. We see creators leveraging our sponsorship feature.

In terms of core algorithms, our algorithms are becoming more transparent. We are starting to share more with the community on how we evaluate and support various terms. As I mentioned, we have seen the results of all this, with more attributes rapidly emerging in the past three months. For example, the term "dress to impress" that I mentioned doubled in the last quarter. Internally, we are indeed measuring the diversity of content. We measure the spread of content, we have some internal indices, and in the past 3 months, we have seen these indices improve.

Q: Regarding guidance targets, if I only look at the midpoint of the guidance targets, it seems that there is an implied continuous decline of 4 percentage points between the fourth quarter and the third quarter. Is this purely due to the impact of last year? Or is there some organic decay present? I just want to understand more inferences and conclusions.

A: This was the highest growth quarter of last year, we are just comparing it to the highest growth of 2023. Second, as you correctly pointed out, this was when PlayStation was launched, so the base is higher.

Q: I want to go back to talk about the logic of AI efficiency. I am curious, what kind of growth or optimization trends may exist in operating expenses and content costs? Regarding the latter, have you seen the desired effects and impacts on platform growth and developer productivity after introducing something in the Luau tool?

A: That's a good question. We run over 150 ML and AI pipelines internally in the company for training, tuning, and building our own models, with speech being one of the important pipelines. We have a lot of AI running upstream and downstream in secure inventory, involving content management, communication, and security. We have shared the foundational 3D models we are building.

Recently, we adjusted the terms of service with the community so that our community can participate in using all 3D data to build 3D generation models in a way that complies with PII and security standards. We have had very good early results in texture generation - auxiliary tools, but we believe we have a huge opportunity to build one of the best 3D foundational creation models in the world, allowing our creators to create through prompts and other types of hints, so stay tuned.

This is a huge research area, and we are just getting started. Security is the direction in which most of our current AI is running, and we will continue to develop on this basis. Finally, I would like to make one more point Safety is an example of running a large amount of inference hardware to keep costs low. We have built our own infrastructure with many edge data centers and a large amount of bandwidth globally, one of the benefits of which is the ability to run a large amount of inference at low cost.

Q: If we look at the project, I have a bigger question about the impact of this project. Stepping back and objectively looking at your guidance goals six months ago, even some of the goals from Investor Day. I think it cannot be denied that some of the recent changes you have made have solidified the platform's foundation, making the current guidance more robust than the guidance from 6 or 9 months ago. I am curious, if I guess this is the correct view, how have the experiences of the past few months affected your views or risk preferences, driving similar platform improvements in the background of potential disruptions?

A: Yes, what I would say is that we have a fairly thoughtful approach to balancing risks. What you saw in the second half of last year was a lot of long-term technical advancements on the platform, such as facial animation, voice, more interactivity on "Avatar." We shared our concerns three months ago that this might create some resistance on the platform. We also talked about content discovery and adjusting our economics.

I think this has been validated - the quality, the original performance of our economy, the original performance of discovery, these are huge growth drivers, and we will continue to focus on them, as well as all the visions we are building.

Q: I have a very high-level advertising potential question to ask you. When you consider where you are today and the huge opportunities you have in advertising revenue growth, what do you think - when we think about the next 1 to 3 years - are the "low-hanging fruit" that you can leverage now? And then, how do you see benefiting from revenue potential in 3 to 5 years?

A: My view is that in the next 1 to 3 years, I'm not sure if we need to look for low-hanging fruit rather than big strategic opportunities. At Roblox, the way we operate our products is to pursue systems, pursue big opportunities.

We will continue to work with all the brands on our platform to achieve the neutralization of closed-loop repeat systems, where we will increasingly pivot - in addition to all the incredible brand engagement - to building more daily repeat advertising customers on the platform, whether it's to increase brand awareness, drive digital shopping, or drive physical shopping. What we are doing is strategic, we don't need to do "the low-hanging fruit," but we have the opportunity to do the right big things.

Risk disclosure and statement of this article: Dolphin Investment Research Disclaimer and General Disclosure