Vipshop Holdings Limited (NYSE:VIPS) Q3 2019 Earnings Conference Call November 13, 2019 7:30 AM ET

Company Participants

Jessie Fan – Director-Investor Relations
Eric Shen – Co-Founder, Chairman and Chief Executive Officer
Donghao Yang – Chief Financial Officer

Conference Call Participants

Ronald Keung – Goldman Sachs
Joyce Ju – Bank of America
Thomas Chong – Jefferies
Tian Hou – T.H. Capital
Andre Chang – JPMorgan
Tina Long – Credit Suisse
Hans Chung – KeyBanc Capital Markets
Vicky Wei – Citi
Lisa Zhou – 86Research
Jamie Shen – Bank of China
Sally Chan – CLSA
Ellie Jiang – Macquarie

Operator

Ladies and gentlemen, good day, everyone, and welcome to the Q3 2019 Vipshop Holdings Limited Earnings Conference Call. At this time, all participants are in a listen-only mode.

At this point, I would like to turn the call over to Ms. Jessie Fan, Vipshop’s Director of Investor Relations. Please proceed.

Jessie Fan

Thank you, operator. Hello, everyone, and thank you for joining Vipshop’s third quarter 2019 earnings conference call. Before we begin, I will read the safe-harbor statement.

During this conference call, we will make forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 that are based on our current expectations, assumptions, estimates and projections about Vipshop Holdings Limited and its industry. All statements, other than statements of historical facts we may make during this call, are forward-looking statements. In some cases, these forward-looking statements can be identified by words or phrases such as anticipate, believe, continue, estimate, expect, intend, is or are likely to, may, plan, should, will, aim, potential or other similar expressions. These forward-looking statements speak only as of the date hereof and are subject to change at any time, and we have no obligation to update these forward-looking statements. Joining us on today’s call are Eric Shen, our Co-Founder, Chairman and CEO; and Donghao Yang, our CFO.

At this time, I would like to turn the call over to Mr. Eric Shen.

Eric Shen

Good morning and good evening, everyone. Welcome and thank you for joining our third quarter 2019 earnings conference call. During the quarter we delivered strong operational and financial results, which were made possible by our teams’ solid execution of the merchandising strategy. Our total active customers increased by 21% year-over-year, which further improved from the 11% year-over-year growth we delivered during the second quarter of this year. The healthy growth momentum of both our repeat and new customers is driving our top line growth, represented by a 10% year-over-year increase in the third quarter 2019, despite weakly – despite weak seasonality.

By shifting back to the discount apparel business where our core capability lies, we are seeing better user metrics across the border, as we continue to improve our product offering to all customers needs. The positive word of mouth feedback we receive will enable us to penetrate into new customer segments and attract more new customers over time. This is very important as customer growth is an engine that will drive our top line growth and the profitability improvements in the future.

Looking ahead, we will continue to focus on improving our product procurement and driving more value to our customers. As a dominant player in China discount retail segment, we are well positioned to further expand our market shift and generate sustainable value for our stakeholders.

At this point, let me hand over the call to our CFO, Yang, so that he may discuss our strategy in more detail and the goal of our operational and the financial results.

Donghao Yang

Thanks, Eric and hello, everyone. We finished the third quarter of 2019 with solid top line growth and sustainable year-over-year improvement in our profitability. During the quarter our non-GAAP net income attributable to Vipshop’s shareholders increased by 140% to RMB1.2 billion from RMB501 million in the prior year period.

Our non-GAAP net margin attributable to Vipshop’s shareholders reached 6.1%, which is new historically high level. These successes were the results of our focus on highly profitable apparel-related categories. GMV on October related categories, including GMV from the newly acquired Shan Shan Outlets increased by 29% year-over-year in the third quarter of 2019.

Our two deep discount channels, [indiscernible] continued to drive our GMV growth during the quarter. Specifically GMV contribution from these two channels reached 42% of our online GMV in the third quarter of 2019, which further increased from 29% in the previous quarter. These results further demonstrate that our customers are looking for a value and when we offer desirable products at a deep discount to them, they shopped with us more. We’re keenly focused on the training of our merchandisers as they continue to improve their procurement and negotiation capabilities, we believe we will see further improvement in our key operating metrics and financial results, allowing us to reinvest into unlocking the long-term potential of our company. Furthermore, we will continue to balance our top line growth with sustainable profitability improvement aiming to deliver intense shareholder return over time.

Now moving onto our quarterly financial highlights. Before I get started, I would like to clarify that all the financial numbers presented today are in renminbi amounts, and all percentage changes refer to year-over-year changes unless otherwise noted.

Total net revenue for the third quarter of 2019 increased by 10% to RMB19.6 billion from RMB17.8 billion in the prior year period, primarily driven by the growth in the number of total active customers. Gross profit for the third quarter of 2019 increased by 16.6% to RMB4.2 billion from RMB3.6 billion in the prior year period. Gross margin increased to 21.6% from 20.4% in the prior year period.

Fulfillment expenses for the third quarter of 2019 decreased to RMB1.6 billion from RMB1.8 billion in the prior year period. As a percentage of total net revenue, fulfillment expenses decreased to 8.1% from 9.9% in the prior year period.

Marketing expenses for the third quarter of 2019 were RMB721 million, as compared with RMB578 million in the prior year period. As a percentage of total net revenue, marketing expenses were 3.7%, as with 3.2% in the prior year period.

Technology and content expenses for the third quarter of 2019 decreased to RMB401 million from RMB491 million in the prior year period. As a percentage of total net revenue, technology and content expenses decreased to 2% from 2.8% in the prior year period.

General and administrative expenses for the third quarter of 2019 were RMB682 million, as compared with RMB625 million in the prior year period. As a percentage of total net revenue, general and administrative expenses remained stable at 3.5% year-over-year.

I

Our income from operations for the third quarter of 2019 increased by 229% to RMB1.2 billion from RMB355 million in the prior year period. Operating margin increased to 6% from 2% in the prior year period.

Non-GAAP income from operations, which excludes share-based compensation expenses and amortization of intangible assets resulting from business acquisitions, increased by 151.5% to RMB1.4 billion from RMB547 million in the prior year period. Non-GAAP operating income margin increased to 7% from 3.1% in the prior year period.

Our net income attributable to Vipshop’s shareholders for the third quarter of 2019 increased by 282.7% to RMB875.5 million from RMB229 million in the prior year period. Net margin attributable to Vipshop’s shareholders increased to 4.5% from 1.3% in the prior year period. Net income attributable to Vipshop’s shareholders per diluted ADS increased to RMB1.30 from RMB0.34 in the prior year period.

Non-GAAP net income attributable to Vipshop’s shareholders, which excludes share-based compensation expenses, impairment loss of investments, amortization of intangible assets resulting from business acquisitions, tax effect of amortization of intangible assets resulting from business acquisitions, investment gain and revaluation of investments excluding dividends, tax or loss in investment – sorry, tax effect of investment revaluation of investments excluding dividends, and share of gain or loss in investment of limited partnership that is accounted for as an equity method investee, increased by 140.2% to RMB1.2 billion from RMB501 million in the prior year period.

Non-GAAP net margin attributable to Vipshop’s shareholders increased to 6.1% from 2.8% in the prior year period. Non-GAAP net income attributable to Vipshop’s shareholders per diluted ADS increased to RMB1.78 from RMB0.75 in the prior year period.

As of September 30, 2019, our Company had cash and cash equivalents and restricted cash of RMB6.6 billion and short term investments of RMB58 million. For the third quarter of 2019, cash from operating activities was RMB2.1 billion.

Looking at our business outlook for the fourth quarter of 2019, we expect our total net revenue to be between RMB26.1 billion and RMB27.4 billion, representing a year-over-year growth rate of approximately zero percent to 5%. These forecasts reflect our current and preliminary view on the market and operational conditions, which is subject to change.

With that, I would now like to open the call to Q&A.

Question-and-Answer Session

Operator

Ladies and gentlemen, we will now begin the question-and-answer session. [Operator Instructions] Your first question comes from the line of Ronald Keung from Goldman Sachs. Please go ahead.

Ronald Keung

Hi, thank you, Shen-zong, Donghao and Jessie, and congratulations on the very strong third quarter result. My question would be on your fourth quarter revenue guidance. Just want to hear how you’re seeing the Singles’ Day and how this first month and half of quarter has tracked and partly because last year, fourth quarter revenue kind of slowed. So it’s a pretty low base quarter of last year as you shifted the non-apparel 1P business to 3P. So with this relatively low base and based on how you’ve done it on Singles’ Day. Just want to hear how are we looking into the growth in the fourth quarter? And should we expect a similar growth pattern of the second and third, you constantly have done even ahead of what you are targeting as you guided. But just want to hear how have you brought into the zero to 5% revenue guidance for the fourth quarter. Thank you.

[Foreign Language]

Eric Shen

[Foreign Language]

So Ronald, fourth quarter is a big quarter for us. So the GMV and the revenue contribution for the full year in 4Q is quite big for us – from our perspective. We just finished our Singles’ Day event. However, the December 8 Anniversary Sale is quite big for us and it’s actually the biggest promotional event for us in the quarter. We are preparing for that right now. And therefore, we’re being modest with the guidance.

Operator

Thank you. Your next question comes from the line of Joyce Ju from Bank of America. Your line is now open.

Joyce Ju

Good evening, Shen-zong, Donghao and Jessie. Congrats on the solid quarter. I have a question regarding the consolidation of the offline outlet business. We have then – Donghao mentioned, we have seen a very strong growth in terms of GMV the apparel growth is funding nicely and year-over-year. I wonder like how much of there was like growth actually contributed by the offline outlets. And also how do we actually group the revenue for this business, is it all like calculated in the other rates? And also I want know your active customer growth and also the other growth are these offline orders being also kind of in, yes?

Donghao Yang

Okay. Let’s take this first half of your question about how we consolidate the numbers from Shan Shan outlook model. We bought Shan Shan revenue on net basis, meaning, we only booked the commission at Shan Shan Outlets. The outlets make on the hurdles. So it’s from net basis and in Q3, the net revenue contribution from Shan Shan Outlets was around RMB70 million, it’s not a number. And on the top line and the profit – the net profit that we booked consolidated from Shan Shan Outlets was around RMB8 million. So the total contributions from Shan Shan in terms of net revenue and bottom line are not very significant.

Jessie Fan

And the second question from Joyce [Foreign Language]

Eric Shen

[Foreign Language]

So Joyce, excluding Shan Shan Outlets apparel growth in the third quarter of 2019 was around 20% year-over-year. And so our disclosed numbers in terms of active customer or orders, we don’t include any offline business from that.

Operator

Your next question comes from the line of Thomas Chong from Jefferies. Your line is now open.

Thomas Chong

Hi, management. I would like to ask more about your margin. This quarter the margin is better than expected. I wanted to ask, how it should the next quarters’ margin and also around the lower cost 2020 or how it will do marginally? And then also on the consumer expense as a percentage of revenue or how should we see that trend? Thank you.

Donghao Yang

Thank you very much for your question. So in terms of margin, we’re confident that the current margin level will be sustainable in the foreseeable future. I look at the reasons behind the margin improvement, we’ve refocused our effort high apparel related categories. And then we have taken great efforts to cut down costs in our operations. So you look at those things that drive the improvement in our margin. You can see where the confidence has come from, why we believe that the margin – current margin should be sustainable in the foreseeable future. In terms of the fulfillment costs, we’re still trying to further drive down the fulfillment cost. And so far we’ve outsourced about 30% to 40% of our delivery operations to third-party couriers and going forward, we will continue to take make efforts to further cut down costs.

Operator

Thank you. Your next question comes from the line of Tian Hou from T.H. Capital. Your line is now open.

Tian Hou

Yes. Good evening, management. Congratulations on the good 3Q results. The questions related to the active users. I think user grow almost 21%. That’s actually pretty significant. So I wonder how many of them are Vipshop organically? How many of them come from retail JD? And going forward how does the management relation the user growth will be? That is the first question.

The second question is really for Shen-zong.

[Foreign Language]

So the question is, this year, we have already renewed our focus on our core business and it’s very effective. So going forward that, what’s the new strategy? What’s the new growth driver? That’s the two questions. Thank you so much.

Eric Shen

[Foreign Language]

So around 24% of our quarterly new customers comes from Tencent and JD. However, we do want to know that new customers and total active customers are different metrics.

[Foreign Language]

So Tian on your second question, on the growth driver going forward, since we’ve shifted back to the core business and focus on apparel, we seen quite positive results. So we do believe that as we continue to deepen our expertise in the field and continuing to execute on the merchandising strategy, there is still a lot of potential. So our core business and our merchandising capability, we will able to drive our long term growth.

[Foreign Language]

And more specifically, we’re focused on products. So we’re focused on good merchandising and good product offerings and having this product, we will continue to drive new customers to our platform and also at the same time our existing customers will be buying more. Once new customers to come to our platform, we continue to offer good merchandising and good product, deep discount, they will become high quality need on existing customers over time. So we do believe that everything has been the core of merchandising.

Operator

Thank you. Your next question comes from the line of Andre Chang from JPMorgan. Your line is now open.

Andre Chang

Hi, Shen-zong and Donghao and Jessie. [Foreign Language]

Let me translate my question. I noticed that in the fulfillment expense, the shipping and handling expenses improvement has been pretty consistent, but the other part has been pretty volatile. In third quarter, the other part of the fulfillment expenses has improved quite meaningfully. I want to understand the underlying reason behind it? Thank you.

Donghao Yang

Well, thank you very much for your question. I think the biggest contributor to the savings in our fulfillment costs is the JITX model. We’re now shipping the products under the JITX model directly from our suppliers’ warehouse to customers’ addresses. In the past, everything has had to go through our own warehouses. So by shipping directly from the suppliers to the customers, we could save warehousing cost and also shipping costs. And also in this past quarter, we cut – also in our headcount and fulfillment operation, which is another contributor to our cost savings.

Operator

Your next question comes from the line of Tina Long from Credit Suisse. Your line is now open.

Tina Long

Hi, management. Congratulations on the very strong results. I have my quarterly advices on because we actually notice since fourth quarter last year most of your revenue growth actually has been driven by the number of active customers, instead of the revenue per customer. In fact, the revenue per customer actually has been entering into negative territory since fourth quarter last year. So we want to know going forward, should we expect the ARPU to be stabilized or continued to enter, I mean, continue to stay in the beyond your territory and the growth were mainly driven by the customer number of growth or we should see stabilization in ARPU, and in the meantime, we will have a more solid or healthy customer number of growth. Thank you.

[Foreign Language]

Eric Shen

[Foreign Language]

So Tina, our ARPU this quarter was down year-over-year due to a few factors. The first is new customer contribution went up and new customers always buy less than our existing customers and therefore, there was ARPU dilution as a result of that. And the second factor is the contribution from our marketplace went up and ticket size on market much lower also dragging down and impacting our ARPU a little bit. And lastly, as soon as we recently came down to the core deep discount products, the tickets are naturally lower also contributing to the ARPU decline. However, we do think that be these issues should have stabilized going forward and we will as a new customers shop with us more and more. We’re confident that we can turn them into high quality existing customers, who will be spending more with us. And the ARPU trend should be more healthy going forward.

Operator

Your next question comes from the line of Hans Chung from KeyBanc Capital Markets. Your line is now open.

Hans Chung

Good evening. Thank you for taking my question. So Shen-zong, Donghao and Jessie, hello. So I have a couple of quick questions. So first, if we look at having third quarter is things like – is actually down sequentially. And then – but historically, we have seen the sequential course for third quarter in terms of gross margin. And then so maybe just any color regarding the trend, and then how should we think about the fourth quarter and beyond. And then the second one is, I notice that our inventory turnover days of inventory both spike a little bit in third quarter. And then, so I just wonder what’s the dynamic here and is that because we started to increase more and more the opportunity to purchase from here. So any color will be helpful. Thank you.

Donghao Yang

Okay. Well, thank you very much for the question. Let me take your questions. Now first, gross margin in Q3 was – Q3 is usually our thought season in the year, because it’s hot summer time and we sell less apparel in Q3 than other quarters for example, Q4 and Q1. So gross margin sequentially is usually lower because the product mix of that – year-over-year gross margin improvement in Q3 in this past two, three year, it was quite strong. And inventory, the increase in our inventory and the inventory turnover days is mainly because we’ve purchased some products for our offline stores. So far we’ve got 300 offline stores. But those offline stores are also in experimental stage. But we bought some inventory to support the growth, if there is an operation in those offline stores.

Operator

Your next question comes from the line of Alicia Yap from Citi. Your line is now open.

Vicky Wei

This is Vicky Wei on behalf of Alicia Yap. Good evening, management. Thanks for taking my question. I have the follow up on Shan Shan Outlet, with management, please share the synergy you see with Shan Shan and also in terms of apparel, what should we expect the apparel GMV growth into next year? And any color or metrics you could share with us on the Singles’ Day promotion, especially on the apparel sales growth rate during Singles’ Day?

[Foreign Language]

Eric Shen

[Foreign Language]

So for Shan Shan because we are a online discount retailer essentially an online outlet. And Shan Shan is an offline outlet. We do see a lot of opportunity to leverage our mutual expertise and integrate our resources online and offline. As for apparel growth next year, we are keenly focused on the growth in the apparel category, and we believe the consumption needs for such a core category would continue next year. So we’re quite confident with apparel growth into 2020. And lastly, regarding Singles’ Day apparel sales, we saw quite solid growth apparel category at around 20% year-over-year for our Singles’ Day promotional events.

Operator

Your next question comes from the line of Natalie Wu from CICC. Your line is now open.

Unidentified Analyst

Hi, management. It’s [indiscernible] on behalf of Natalie. Thanks for taking my question. Would you please share the breakdown – breakdown the elements in other revenues? What is the percentage of commission and how should we make growth in other revenues and as percentage of total revenue, especially after the consolidation of Shan Shan? Thanks.

Jessie Fan

Okay. I’ll just read and recover the other revenue breakdown. In the third quarter of 2019 in other revenues contribution from third-party marketplace commission is around 23% from advertising around 22% from third-party logistics and co-location around 5%, internet finance interest around 7%, third-party delivery income around 35%. Super VIP membership fee at around 5% and Shan Shan Outlets at around 1% and the rest is what we call others.

Operator

Your next question comes from the line of Lisa Zhou from 86Research. Your line is now open.

Lisa Zhou

Hi, management. Congratulations on strong results. So my question is on fulfillment and especially on the JITX model. Could management share how much of your orders is currently using the JITX model now and what’s your future targets? Thank you.

[Foreign Language]

Eric Shen

[Foreign Language]

So Lisa, currently around 30% of our orders are shipped through the JITX model. However, we do have a lot of orders that need to be combined in warehouses and therefore, of course, we will continue to expand the coverage of JITX and the contribution should continue to increase slightly. But it wouldn’t be a much more significant increase from where we stand right now.

Operator

Thank you. Your next question comes from the line of Jamie Shen from Bank of China. You may now ask the question.

Jamie Shen

Hi, management. I have a very quick follow-up on the customer growth. I think you named better merchandising strategy as a key driver behind the customer growth in your prepared remarks. Just wondering if you could elaborate more on how you managed to improve targeting efficiency for new customers effectively during the past quarter. In addition as we are halfway through the fourth quarter, do you expect the robust customer growth trend to continue? Thank you.

[Foreign Language]

Eric Shen

[Foreign Language]

We drove our new customer and existing customer growth through our merchandise strategy. So, as we bring better and better product offerings to our platform, both new customers and existing customers will want to visit us and shop from us more. So, we do believe that our products are bringing these customers to us. So we are deepening our expertise and continuing to find better and more valuable products for our customers. In the fourth quarter, it’s the same strategy for customer acquisitions, we continue to focus on merchandising and we’re seeing pretty good trends currently.

Operator

Your next question comes from the line of Sally Chan from CLSA. Your line is now open.

Sally Chan

Yes. Hi. Hello. Thank you, management for taking my question. I have a follow-up question on your offline strategy. I understood that we opened around 100 VIP offline stores in the past one year. Actually a lot of these stores are just pretty new, just wondering, say for older stores are there any metric that we can share in terms of the sales or the margin side? And for example, for these older stores, how long do we think it could take for them to breakeven. And even next year, what’s our expansion plan like for our offline stores. How much upside investments do we need for each store? And should we expect any drag to margins for next or even this year. Thank you.

[Foreign Language]

Eric Shen

[Foreign Language]

Sally, we’re actively exploring the offline opportunity in two different models, Vipshop and Vipmaxx with different positioning. Currently we’ve seen a very good customer feedback. The business is slightly loss-making on a fixed basis. Currently we’re still in quite early, exploring how to optimize the per store efficiency and also to improve the customer experience. So we will continue to look into the offline opportunities. It’s very likely that we will continue to invest into the segment, we will also look for the efficiency, so that it can be breakeven and make profit as quickly as we can.

Donghao Yang

And on top of that, the GMV growth – GMV contribution from the offline store are very significant as of now.

Operator

Your next question comes from the line of Ellie Jiang from Macquarie. Your line is now open.

Ellie Jiang

Thank you, Shen-zong, Donghao and Jessie. Congratulations on the strong quarter. I just have a quick question on the average order ticket size. So what I did was I divided GMV by the total orders. I realized from the past two quarters seems that our average order ticket size has fallen a bit below to our RMB288 free shipping threshold. I just want to see if management can gave us any color on the reason of the lower order ticket size. Thank you.

[Foreign Language]

Eric Shen

[Foreign Language]

So, Ellie the ticket size decline is due to a few factors. The first one is marketplace contribution increased from 5% in the third quarter 2018 to 9% this quarter. And because third-party marketplace orders are shipped from different suppliers and the ticket sizes lower. It did track down the calculated ticket size. The second factor is our no-bundling policy that we rolled out in the fourth quarter of last year, customers will have to buy more than one item to get the highest level of discount. So after we rolled out the no-bundling policy, we are seeing the – it having customers buying less items, which in fact ticket size but it is better for the customer experience.

And lastly, our Super VIP’s free shipping and free return, which also impacts ticket size as they don’t have to buy over RMB288 to get free shipping. Overall, we are not too concerned about the decline in ticket size. We are more focused on driving the ARPU for different cohorts. So as they’re buying more us – more from us on an annualized basis, that’s a very positive time. We want them to visit more frequently and frequently as they can, as we can balance the fulfillment costs associated with the shipping of these orders. We still think it’s very good for the customer experience and it’s very positive trends.

Operator

Your next question comes from the line of [indiscernible] from UBS. Your line is now open.

Unidentified Analyst

Shen-zong and Donghao and Jessie, thanks for taking my question. My question is that other than fulfillment expenses, where else can we see leverage and operating expenses and how do we see our marketing expenses trend for the next quarter and next year given how revenue guidance for the next quarter is only zero to 5%. Third question, could we have somewhat of an update on the Super VIP users?

[Foreign Language]

Eric Shen

[Foreign Language]

Our GMV technology trends should continue to go down with more and more leverage as we expand our scale. In fact, our customer acquisition cost on the marketing side has declined year-over-year in the third quarter of 2019. And we will continue to execute similarly into the fourth quarter.

[Foreign Language]

Regarding the Super VIP program in the third quarter of 2019 we have around 2.5 million paid members. They are very loyal customers to VIP. In the future we plan to increase our investment into the Super VIP program, further increasing our customers thinking into the platform.

Operator

Your next question comes from the line of Joyce Ju from Bank of America. Your line is now open.

Joyce Ju

Hello, Shen-zong, Donghao and Jessie. I have a follow-up question regarding the overall trend what you’ve seen in the general, in the e-commerce space because we have seen the latest [Indecipherable] data showing a slowing down time in the third quarter, while for the company it’s showing a relatively resilient demand over the Singles’ Day. Have you ever seen a – actually a recovering trend for the e-commerce business and like in the fourth quarter versus third quarter or like you’re actually seeing a more stablized retail growth. Thanks a lot.

[Foreign Language]

Eric Shen

[Foreign Language]

We are seeing quite strong growth momentum of growth potentially in the industry. So in the first quarter, we also saw quite a good growth in Singles’ Day in the industry, so we have a lot of confidence in the continuous growth of this industry going forward.

Operator

There are no further questions at this time. I would now like to hand the conference over back to you management team.

Eric Shen

Thank you for taking the time to join us. And we look forward to speaking with you next quarter. Thank you.

Operator

Thank you so much, presenters. So ladies and gentlemen, this concludes today’s conference call. Thank you for participating. You may all disconnect.