Kingsoft Cloud Q2 2024 Earnings Call Transcript

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August 20, 2024

There are 6 speakers on the call.

Operator

Good day, and thank you for standing by. Welcome to the KingsoftCloud's 2nd Quarter 2024 Earnings Conference Call. At this time, all participants are in a listen only mode. After the speakers' presentation, there will be a question and answer session. Please be advised today's conference is being recorded.

Operator

I would now like to hand the conference over to your first speaker today, Nicole Shan, IR Director of Kingsoft Cloud. Please go ahead.

Speaker 1

Thank you, operator. Hello, everyone, and thank you for joining us today. Kingsoft Cloud's Q2 2024 Earnings Release was distributed earlier today and is available on our IR website at ir. Kxyun.com as well as on global newswire services. On the call today from KingsoftCloud, we have our Vice Chairman and CEO, Mr.

Speaker 1

Zou Tao and CFO, Mr. Henry He. Mr. Zou will review our business strategy, operations and the company highlights, followed by Mr. He who will discuss the financials and the guidance.

Speaker 1

He will be available to answer your questions during the Q and A session that follows. There will be consecutive integration. Our interpretations are for your convenience and reference purpose only. In case of any discrepancy, management's statement in our original language will follow well. Before we begin, I'd like to remind you that this conference call contains forward looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934 as amended and as defined in the U.

Speaker 1

S. Private Securities Litigation Reform Act of 1995. These forward looking statements are based upon management's current expectations and current market and operating conditions and relate to U. S. Standing among known risks, uncertainties and other factors, of which are difficult to predict and many of which are beyond the company's control, which may cause the company's actual results, performance or achievements to differ materially from those in the forward looking statements.

Speaker 1

Further information regarding these and other risks, uncertainties or factors are included in the company's filings with the U. S. SEC. The company does not undertake any obligation to update any forward looking statements as a result of new information, future events or otherwise, except as required under applicable law. Finally, please note that unless otherwise stated, all financial figures mentioned during this conference call are denominated in RMB.

Speaker 1

It's now my pleasure to introduce our Vice Chairman and CEO, Mr. Zhou. Please go ahead. Thank you.

Speaker 2

Hello, everyone. Thank you and welcome all for joining Kingsoft Cloud's Q2 2024 Earnings Call. I am Zou Tao, CEO of Kingsoft Cloud. Looking back on the 2 years since August 2022, our entire Kingsoft Cloud team has firmly executed the high quality and sustainable development strategy and the company has undergone a complete transformation. First of all, profitability fundamentally improved as gross margin steadily increased from low single digit to 17%.

Speaker 2

Adjusted EBITDA margin increased to 3% after turning positive in Q1 and we are well on track to turn operating and net profit positive. 2nd, swiftly embracing AIGC opportunities. As this new round of AI services revenue contribution to public cloud increased from 0% to 26%, a leading figure in the industry. 3rd, firmly phasing out low margin businesses as CDN Services revenue contribution decreased from approximately 40% to 20% and along with it single large customer concentration risk fundamentally resolved. 4th, implementing refined management in aspects of procurement, assets and operation.

Speaker 2

As quarterly costs and expenses decreased by approximately RMB300 1,000,000 representing 15% of quarterly revenues. 5th, taking long term perspectives as Wuhan R and D Center quickly scaled up to hosting approximately 30% of the entire workforce, excluding Kamloz, laying a solid foundation for sustained technological leadership as well as completing dual primary listing on Hong Kong Stock Exchange followed by inclusion into the Hang Seng Complemented Index and Hong Kong Stock Connect solidifying our capital markets infrastructure. All of these have laid solid foundation to the high quality and sustainable development in the future. I would like to express our sincere gratitude to all our customers, shareholders and employees who have consistently supported and cared for us over the long term. Now I will walk you through the business highlights of the Q2 2024.

Speaker 2

This quarter, Kingsoft Cloud has achieved new breakthroughs in terms of revenue scale, profitability and operating cash flow. In particular, our revenues reached RMB1.89 billion, not only a sequential growth of 6.5%, but also a year over year expansion of 3.1%. Revenue from high value added products and services has grown offsetting pressure brought about by our proactive adjustments of the CBN services. Adjusted gross profit reached RMB323 1,000,000 increased by 56.4 percent year over year. Adjusted gross margin increased to 17.1%, marking the 8th quarter of consecutive improvement.

Speaker 2

Adjusted EBITDA reached RMB60.59 million and adjusted EBITDA margin reached 3.2%, a sequential improvement after the milestone of turning positive in Q1 and a significant increase of 6.5 percentage points year over year. Net operating cash inflow amounted to RMB115 1,000,000 once again demonstrating our cash generating ability from operating activities. The improvement of various financial performance indicators signifies that Kingsoft Cloud's high quality and sustainable development strategy has been effective marking a new phase in our development and laying a solid foundation for long term healthy growth in 2024 and beyond. In terms of public cloud services, revenues reached RMB1.23 billion this quarter, representing a year over year increase of 6.5% and a quarter over quarter increase of 4%. We have seen positive outcomes across our three priorities for public cloud services, namely the Xiaomi and Kingsoft Ecosystem, AI Businesses and Supply Chain.

Speaker 2

First of all, serving as the sole strategic cloud platform within the Xiaomi and Kingsoft Ecosystem, we firmly grasp the cloud business opportunities within the ecosystem. This quarter, revenue contribution from Xiaomi and Kingsoft reached 20% amounting to RMB370 1,000,000 and witnessed a year over year increase of 36.9 percent. Secondly, AI businesses continue to bear fruit. This quarter, AI revenue surged to RMB326 1,000,000, doubling the amount in the Q1 and accounting for 26.3 percent of public cloud revenues, an industry leading position. Our AI customer base also further diversified, including large language model companies, self driving, Internet applications and others.

Speaker 2

We have established a substantial computing resource pool, leading the industry in large scale network capabilities, capable of supporting the networking topology of supercomputing alloster clusters

Speaker 3

at the

Speaker 2

10,000 chip level. Thirdly, we built a comprehensive supply chain system, securing the scale of our stable intelligent computing resource pool and managing procurement costs. By fully utilizing data centers resources in Central and Western regions of China, costs are significantly reduced compared to the data centers in the core cities in the East. Meanwhile, we strictly control internal procurement costs, expand coverage of suppliers and seek the best combination of price and quality. Moving on to Enterprise Cloud Services, where revenues amounted to RMB657 1,000,000.

Speaker 2

In public services space, we have actively pursued opportunities within public service cloud and state owned enterprise cloud. Implementing standardized operation and maintenance, we have leveraged our 4 components such as models, big data and workspace collaboration, targeting use cases in the public service and enterprise domains. In the China E Government Cloud Market Research Report released in June 2024 by CCID, a leading consulting company in China. We are ranked in the leaders quadrant. In the China e government cloud operation service market report by IDC, we ranked as the top 6 companies in the industry.

Speaker 2

Such ranks reflect recognition from the industry market for our product capabilities and market share. This quarter, we have promoted the benchmark project of implementing large language models in public services sector, which will assist the Beijing Municipal Commission of Housing and Urban Rural Development in building the 12,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000,000 in summarizing statistics and categorizing the 12, 3, 4, 5 hotline data and improving the service quality and response speed. In healthcare space, Changzhou Health Cloud has launched its Phase 5 expansion. It will meet its requirements of new business scenarios and the needs of extended archive of healthcare images fully validating the potential to establish long term cooperation for construction and operation of industry cloud customers and projects. In AI industry applications, Pingsoft AI, a subsidiary invested and established by us has gradually started to promote its business, focusing on seizing business opportunities in enterprise AI software applications and delivery deployments.

Speaker 2

In terms of industry models, we officially launched a strategic cooperation with Denton's Law Firm, a leading law firm in China and established the joint laboratory of legal artificial intelligence taking a leap forward in digital transformation of law industry. In terms of product and technology, we uphold the principles of building success based on technology and innovation, focusing on delivering best in class customer experience across our core product offerings. In AI space, in response to surging data cleansing demand from AI clients, we have integrated products like bare metal and object storage to create a holistic solution for data cleansing accommodating text, images and videos. This multimodal solution is tailored to meet the data cleansing requirements for the creation of both pre training and fine tuning data sets. In enterprise cloud space, the Galaxy SaaS platform released a proprietary cloud platform with low cost and high density.

Speaker 2

Compared to original standard configuration, the high density version has achieved a maximum reduction of 64% in the cost per instance and an increase of up to 300% in instance density. In summary, after 2 years of ZEPAS implementation of the high quality and sustainable development strategy, Kingsoft Cloud fundamentals have undergone a complete transformation. Looking forward, we will continue to enhance our profitability and cash generating capabilities, deepen cooperation with Xiaomi and Kingsoft Ecosystem, strengthened Wuhan Research Center and develop comprehensive understanding of new AI and explore such opportunities, thereby continuously creating value for our customers, shareholders, employees and other stakeholders. I will now pass the call over to our CFO, Henry to go over our financials for Q2 2024. Thank you.

Speaker 3

Thank you, Ms. Zhou, and welcome everyone for joining the call. Now I will walk you through our financial results for the Q2 of 2024. We would like to highlight 3 key areas of progress. First, we are very pleased with ongoing improvements in our financial metrics.

Speaker 3

By applying the first principle thinking, we are committed to a profit focused approach

Speaker 2

that

Speaker 3

has led to consecutive increases in our gross profit, gross margin, EBITDA profit and EBITDA margin over the past several quarters. This quarter, our adjusted gross margin reached 17.1% marking 8 consecutive quarters of steady growth, while adjusted gross profit hit RMB333.4 million. After turning a profit in adjusted EBITDA margin last quarter, we continued with this positive trend with RMB60.6 million in EBITDA and 3.2 percent in EBITDA margin, demonstrating our successful execution of a high quality sustainable development strategy. 2nd, this quarter our revenue reached RMB1891.8 million reverting to a positive increasing trend with a 3.1% increase year over year increase and a 6.5% rise quarter over quarter. By strategically adjusting our revenue mix in line with our high quality and sustainable development strategy, we have allocated more resources to develop high value services.

Speaker 3

This quarter, our AI revenues grew to RMB326 1,000,000 making up 26% of our total public cloud services revenue, doubled the amount from last quarter. We have established resilient supply chain, scalable computing power and a long term partnership with customers to support our growing AI revenues. In response to cost pressure and the low margin, we have strategically reduced the proportion of our CDN services to 19% of total revenue, down from 23% last quarter. 3rd, we have recorded a net inflow of operating cash flow amounting to RMB151.2 million. We also secured various financial channels to support our AI business including but not limited to our loan facilities from Kingsoft Corporation, financial leasing and other bank loans.

Speaker 3

Here are the details of our financial results. Total revenues for this quarter were RMB1891.8 million, a 3.1% increase year over year of which revenues from public cloud services were RMB1234.5 million, up 4% from RMB1187.4 million last quarter, primarily driven by the growth in AI related revenues to RMB326 1,000,000. Revenues from Enterprise Cloud Services reached RMB657.2 million, up from RMB588.2 million last quarter due to accelerated project deliveries this quarter. We have continued to enhance our cost control expanding our supply base to improve services quality and procurement prices. Total cost of revenue decreased by 3.4 percent year over year and remained stable quarter over quarter at RMB1573.4 million.

Speaker 3

IDC costs dropped significantly by 14.4 percent year over year from RMB860.7 million to RMB728.2 million this quarter, reflecting the strategic scaling down of our CDS services and optimized utility of a rack usage. Depreciation and amortization costs increased from RMB2002.1 million in the same period of last year to RMB265.9 million this quarter, mainly due to the depreciation of new servers acquired. Solution development and services costs increased by 8 0.4% year over year from RMB452.9 million to RMB491.1 million due to the solution personnel expansion of Camelot, which was in line with the revenue growth. Fulfillment costs and other costs were RMB37.6 million and RMB50.6 million this quarter respectively. Our adjusted gross profit for the quarter were RMB323.4 million, a 56.4 percent increase year over year with an adjusted gross margin of 17.1%.

Speaker 3

This marks a new record and the 8th consecutive quarters of steady margin improvement, up from 11.3% last year and 16.8% last quarter. In terms of expenses, excluding share based compensation and impairments of long lived assets, our total adjusted operating expenses were RMB555.3 million slightly increased by 3.2% year over year and 18.3% quarter over quarter of which our adjusted R and D expenses were RMB200.1 million, a 3.7% increase from last quarter due to the personnel cost increase. Adjusted selling and marketing expenses were RMB117.5 million up from RMB97.9 million last quarter representing 6.2 percent of total revenues. Adjusted G and A expenses were RMB237.7 million compared to RMB178.7 million last quarter. As of June 30, 2024, our cash and cash equivalents totaled RMB1837.8 million providing strong liquidity for operations and AI investments.

Speaker 3

Capital expenditures for this quarter was RMB654.8 million reflecting our investments in infrastructure to support a sustainable AI business. Looking ahead, we remain committed to the principle of high quality and sustainable development. We will continue to enhance revenue quality, reduce costs and expenses and improve profitability. Thank you.

Speaker 1

This concludes our prepared remarks. Thanks for your attention. We are now happy to take your questions. Please ask your question in both Chinese, Mandarin and English. Operator, please go ahead.

Speaker 1

Thank you.

Operator

Thank you. Thank you. We will now take our first question. This is from the line of Xiaodong Zhang from CICC. Please go ahead.

Operator

Your line is open.

Speaker 4

So thanks management for taking my questions and I got two questions here. First of all, could you please update us on your CapEx guidance for the next two quarters? And secondly, could you give us some color on the ROI ROI of your AI investment? And how is your expectation for the AI revenue contribution for the full year? Thank you.

Speaker 3

Regarding the CapEx, so I think first of all, I think you pointed out correctly, this year we're actually accelerating our investment in we think a very good area of potential business growth opportunities. Most of the CapEx, I think probably over 95% or even higher are relating directly to the AI investments, which we think is a very good quality of opportunities for us. So at this moment, while we cannot give our full guidance for the full year CapEx investment, but I think we can probably look into 2 different areas. First of all is for this quarter, you may also notice that we recorded a net cash inflow from operation side, which is around about RMB151 1,000,000. And I think you can already see that the CapEx investment into the good area of business already converted into a positive inflow from operation cash flow.

Speaker 3

That's actually the first point. So the second point is, we also expanded our financing channels. For example, you also notice last year we secured the financing support from Kingsoft Group as well as the leasing potential opportunities from Xiaomi Group as well. But this year, especially in the last two quarters, we also got great support from, for example, the National Policy Banks, the state owned financial institutions, including both banks and also the leasing companies. So in that way, we actually do not limit ourselves with a certain cap of the CapEx investments just to looking the only amount on our cash balance today.

Speaker 3

So my point is given those additional opportunity and financing channels, we actually can reopen and have a very high ceiling of the financial capability we can get to support the AI investment. The third point is, given the investment is a long term, we also measure very carefully regarding the profitability and the sustainability of those investments. And at this moment, we are happy to share most of our AI clients are well known names you probably also noticed on the market. And the second, we do also have a very long term contract from sales side, which can secure the incoming cash flow as well as the client opportunities with a potential upside to secure more business from the same client as a recurring basis. So I remember 1st few quarters ago, we talked about recurring as most important driver for our profitability.

Speaker 3

I think right now given the AI, we do see that recurring revenue percentage are much higher if you compare with the old so called the only ICE services in the old model we did before. So I think that three areas I just mentioned can come to a conclusion that we do not limit ourselves with the cash we already have today. We can have more cumulative increase investments with the capacity. Number 2, every dollar we invest today, the ROE and also the recurring cash flow to serve those liability and increase in the revenue will be very long term and very secured. And the third is, we also use our capacity to secure a good universe of the client, especially the AI company in the market in China.

Speaker 3

Today, I think we are leading on the front with the revenues, with the financing sources we have and we can match in those two sides for the long term going forward. Last note, I think Xiaodang you probably want to have a ballpark number, which I can mention that the total CapEx for this year will be always probably a few times if you look at it from ballpark number compared with last year and that will actually have a very good possibility to convert to accelerated revenue growth on the top line in the coming quarters. Thank you.

Speaker 2

Okay. Let me just translate simply translate what Mr. Zou said. So in terms of AI, I really want to take this opportunity to elaborate a little bit about my overall thoughts. So in my mind, it's really about 3 dimensions.

Speaker 2

1 is the supply of computing power. The second is the inference, which is the application of the artificial intelligence. And the third is the training, which from the current financials that you are able to see, obviously, which is a tremendous growth. For example, it's 10 times year over year growth and 2 times the AI revenue growth versus the Q1. But all these numbers that you're currently seeing are mostly coming from the area of the supply of computing power.

Speaker 2

However, I do think that in the future, the potential room for revenue and for business in terms of training and in terms of for the application of the models have far more potential. Now circling back to your question about the ROI, I have to say that the GP margin for the AI business is far higher than that of the other parts of the business, which is also a major contributing factor for the improvement of the company's overall GP margin. Now looking ahead, I would also like to talk about it from 2 different dimensions. 1 is the supply of computing power and the second is the inference and the application of AI capabilities. Now in the first dimension, 2 areas poses a lot of opportunities.

Speaker 2

1 is electric vehicles and in particular the autonomous driving demand for the EV space, which since the launch of Tesla's FSD, we have been engaging with a lot of EV firms and all of them have significant and real kind of tangible intention to do this and to implement and to train their own autonomous driving models. So this is a lot of space for our business opportunity. Now the second one is robotics, which essentially empowers robots with artificial intelligence. So we do think we will be having a lot of opportunities in this area as well. Noticeably, there's one certain company, which I'm not going to mention its name, have secured a RMB3 1,000,000,000 financing recently.

Speaker 2

So the confidence is very high in this space. Now the second dimension about the inference or the use cases or the model capability, As we have talked about in his prepared remarks, some of the projects that we have collaborated with some of our partners are being implemented. As we deepen such collaboration and the progress and the achievements elaborated in these areas, we do think that this is actually going to be laying a solid foundation for the one stop mass model as a service services that we aim to provide in this space. So in summary, we do think that our overall strategy of owning AI since June last year has been very fruitful and we look forward to continue our pace in its investment and development. Thank you.

Speaker 1

Your next question please. Thank you.

Operator

Thank you. We'll now take our next question. This is from Timothy Zhao from Goldman Sachs. Please go ahead.

Speaker 5

Thank you, management, for taking my question. I have two questions here. And the first question is regarding the revenue contribution from Xiaomi and Kingsoft Group as I noticed that there was a very strong revenue growth in the past quarter and the total revenue contribution already achieved to 20% of the total revenue. So may I ask what is the driver behind that? And what is the AI related revenue contribution from Xiaomi and Kinseng Group to their revenue to Kinseng Cloud?

Speaker 5

And into the second half of this year and into longer term, given we have more cars from Xiaomi on the street as well as the WPS monetization from Kinseng Group. How do we think about the revenue outlook from here? And second question is regarding the CDN revenue as we see a continued proactive down scaling of the CDN revenue. Could you imagine share any thoughts on the outlook for this business line going forward? Thank you.

Speaker 3

The first question regarding the related parties revenue contribution, I think Tim you're right. I think we do see a few very important leading positive signals regarding the revenue potential growth in the future. I think the first of all is really, as we mentioned, giving a stronger business connections, especially with the Xiaomi and the Kingsoft Group. We're allocating more resources and we prioritize the revenue and client demand from our internal client. As we mentioned a few months ago, I think this is actually very good opportunity for Kingstom Cloud.

Speaker 3

So for this quarter, the revenue from Xiaomi and Kingstom Group increased around 36.9% year over year and contributing to about RMB370 1,000,000 for this quarter alone. I think it is a very positive signal given it is a proven of our capability to serve very important internal client including Xiaoming, Kingsoft, including WTS as well. So I think the scenario and applications from auto driving from the AI related SaaS services are very important driver for this opportunity. And we also have to see given this trend going forward, maybe it is possible by end of this year as we are turning to a new financial year, we may asking the shareholders to give us an increasing cap of the related party revenue approval. So I just want to also share this good news with you that maybe for the next 2 or 3 quarters in the shareholder meetings, we are going to happy to propose a higher ceiling of the revenue cap to prove that we do have a great visibility of the internal revenue from related parties.

Speaker 3

The second part is relating the AI revenue contribution. I would say that the incremental revenue from our internal parties are primarily due to the AI related revenues. So that's the first point. The second point is around half of the AI total revenue as you noticed that is actually approximately 1 quarter of the revenue of public cloud for this quarter. Let's say half are coming from related parties, but also the other more than half are from external clients.

Speaker 3

I think that strikes a good balance regarding we prove our capability to serve internal clients, but also have equal capability to have those services and products for outside clients. As you may notice that our outside clients are also most of them are the Tier 1 AI model companies in the China Tech space today. I think that actually strikes to balance from internal and outside, but also to see potential increase, especially the visibility of the potential upside of the revenue growth going forward. And the last note on the first question, I would mention that given you can find that you can observe our gross margin has improving steadily, the incremental dollar of the gross profit are also primarily due to the contribution from our AI related business. And given we are carefully select the AI clients today and we think those revenue can be sustainable, secured and visible going forward.

Speaker 3

And we are going to also learn from past experience that we will control, for example, the business contracts and the business model and also notice the potential risks in working on those revenues and we can also strike a return and risk profile for the profits and contracts who are working on in the AI space. I think that's all for the first part of the question.

Speaker 2

So I think the right way to understand to think about this question is that we have to make a distinction between 2 types of CDN business. 1 is the standard CDN business, which is typically marked by lower profit margin. And there's this other kind of CDN business, which represents usually higher margins. For example, like the live broadcasting acceleration, the dynamic acceleration, etcetera. And this usually has higher margin because they have their higher value added.

Speaker 2

So my quick answer is that in for the first type of standard CDN business, the minimum amount that we aim to maintain on a quarterly basis is RMB300 1,000,000. And I do not expect it to be lower than that. That serves as a base for our business overall business. And that will continue to invest and to expand the higher margin part of the CBN business. Yes, that concludes my answer.

Speaker 2

Thank you, operator.

Speaker 1

Thank you. Yes, thank you, TMC. And this concludes our Q

Speaker 2

and A. Operator?

Operator

Thank you. There are no further questions at this time. So I will now hand back to Nicole Shan for any closing remarks.

Speaker 1

Thank you. And thank you all once again for joining us today. If you have any further questions, please feel free to contact us. Look forward to speaking with you again next quarter. Have a nice day.

Speaker 1

Thank you all. Bye.

Operator

Thank you. This concludes today's conference call. Thank you for participating and you may now disconnect.

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