DAO.US 2023 Q4 financial report conference call: optimistic about the driving force of large models for the long-term development of Youdao.

On February 29th, the education technology company NetEase Youdao (DAO.US) released the unaudited financial report for the fourth quarter of 2023 and the fiscal year 2023. The financial report shows that in the fourth quarter of 2023, Youdao's net revenue reached 1.48 billion yuan, achieving a quarterly profit of 80 million yuan, an increase of 209.2% year-on-year. Operating cash flow net inflow was 160 million yuan, an increase of 91.0% year-on-year. In the fourth quarter, under non-US generally accepted accounting principles, net profit attributable to Youdao common stock shareholders was 69.3 million yuan, compared to 31.1 million yuan in the same period last year. After the financial report was released, NetEase Youdao CEO Zhou Feng, NetEase Youdao President Jin Lei, Vice President of Strategy and Capital Markets Su Peng, Vice President of Finance Li Yongwei, and other executives attended the subsequent analyst financial conference call to interpret the key points of the financial report and answer analysts' questions. The following is a transcript from the conference call: 1. What are the main channels for monetizing the Youdao large language model? Zhou Feng: First of all, there is a consensus in the artificial intelligence industry that education is one of the most important fields for the application of large models. Sam Altman has mentioned this, and Bill Gates has also mentioned that education and healthcare are the most important fields for large models. So the overall focus is to seize important use cases in education and then commercialize them. We are basically focusing on two directions: one is the improvement of existing business and products, and the other is the launch of new products. (1) Improvement of existing products: The large language model has already driven many key features of our products, resulting in an increase in product sales or subscription revenue. First, through smart hardware. Our direction is becoming increasingly clear. Some features of the large models have become the main selling points of hardware products. For example, detailed grammar and vocabulary explanations have become the most frequently used features and selling points of the Youdao dictionary pen since last year. This reminds me of how the Youdao dictionary won the dictionary market with two key features: online interpretation and machine translation. Since we launched the dictionary pen, these large model-based features have become the most differentiated selling points in our products. Another key application is our AI home teacher Xiao P teacher. On our AI learning board X20, Xiao P teacher has a usage rate of nearly 40%, making it the most popular application on X20. Second, through subscription services on the app side. For example, AIBox has become a key feature of the Youdao dictionary, driving overall subscription fee growth by over 100% in three quarters. Recently, AI translation has also become popular. Third, online marketing services. The large model is applied to the advertising business, which can assist in material generation, save costs, and increase efficiency. This has been the main reason for the steady growth of the advertising business over the past five quarters. Currently, about 20% of advertising materials use AI technology. In the long run, what may be more important is our newly launched or upcoming standalone applications such as Xiao P teacher and Hi Echo. I believe their coverage is very broad, such as English oral learning, AI home tutoring, and other use cases. Looking at the performance of the language learning product Speak in the Korean market, they have achieved revenue of approximately $20 million annually. I believe our language learning products also have vast development prospects. Take Xiao P teacher as an example again, its coverage is very broad. When students encounter problems while studying at home, the guidance provided by Xiao P teacher may be clearer than that of parents or students themselves, and can solve various problems in all subjects and stages of learning. Not only are the answers provided of high quality, but they also guide children to learn independently. I believe that using AI for tutoring and answering questions is a profound change. In conclusion, I am optimistic about the driving force of large models for the medium and long-term development of Youdao. 2. What are the key focus areas in the learning services field for 2024? Zhou Feng: In 2023, digital content services have become an important source of net revenue and cash flow in the learning services field. We classify these services as new services launched after policy adjustments, including Youdao Ling Shi, Youdao Bower, and other courses, excluding adult courses. In 2023, net revenue from digital content services reached 2 billion yuan, an increase of 11.7% year-on-year. Operating cash flow exceeded 150 million yuan. In addition, the gross margin is about 70%. In 2024, digital content services will be the focus of learning services. First, consumer demand is relatively strong, and we are improving services to meet the needs of different users. Our Ling Shi courses are already in a leading position in the industry, and our Bower courses are also popular. With the continuous growth of our user base, their needs are becoming more diverse. Therefore, focusing on providing more personalized services has become a key point in our work. Ling Shi recently launched new small class courses for students with higher learning needs. This new form of small class teaching is different from the past, as it combines recorded course content with experienced teacher resources. At the same time, Youdao Bower has made significant updates to the courses, expanding the applicable age groups and providing more flexibility in terms of course time selection for users. As these products establish leading positions in the market, we will be able to customize the products according to the needs of users in different cities, age groups, and consumption plans. Secondly, we will launch new SKUs. Over the past two years, due to the impact of macro environment, policies, and trends such as artificial intelligence, the changes in learning needs of households have been very fast. Therefore, our team naturally sees opportunities for new SKUs. We will focus on literacy learning for K-12 users, aiming to provide high-quality learning content and services to expand learners' horizons, cultivate their interests in important STEM and humanities areas, and enhance their lifelong abilities. We take an agile and lean approach to these projects, starting with small projects and then developing organically. These are some incubating projects, and we will see the results of these projects in the coming quarters. Third, we utilize artificial intelligence as a key differentiator for our products. With our large model technology, we have the ability to realize various applications, including but not limited to AI diagnostics, AI tutoring, and personalized exercises.The core of integrating artificial intelligence into courses lies in two aspects: improving learning outcomes and enhancing productivity. We believe that, apart from motivation, the main challenge in the learning process is that it is a labor-intensive service. Therefore, we focus on providing services that are crucial to learning outcomes but often require a significant amount of teacher input. With the use of AI, we have achieved great success. For example, in our Youdao BoWen AI writing service, within just one quarter, we were able to provide detailed corrections and enhancements to 25,000 student essays. If everyone is able to save half an hour of time, it would save over 12,000 hours in total. At the same time, students' writing skills will also see a significant improvement. Therefore, this creates a win-win situation: providing unique value for users while also increasing productivity. Currently, many similar projects are in progress, which will have a more profound impact on students' learning outcomes and key performance indicators for business operations.The combination of artificial intelligence and hardware has created a lot of value for users in higher-end products. For example, integrating large model capabilities into hardware is very attractive because as large model capabilities (such as grammar teaching) become more popular, users naturally want to be able to use these features on hardware because it is more convenient and responsive. One commonly asked question is whether the dictionary pen supports offline translation, and the answer is yes. Offline translation capability is a key consideration for users when making a purchase. Therefore, artificial intelligence and language processing capabilities on hardware are very interesting aspects in the high-end product field, and we have rich experience in these areas.Finally, we reorganized our sales channels and have now shifted towards a sales and supply chain structure that is more focused on online and more flexible. The recent launch of new products proves the ability of our sales team. Thanks to the promotion on Douyin Live and Dabao, the new products have gained significant momentum after their release. But there is still much work to be done by our team, as we plan to establish more new sales and marketing channels and optimize them. Nevertheless, the success of the new product launches proves that our development direction is correct. 5. With the improvement of cash flow in 2023, can the management provide an outlook for the cash flow in 2024? Operating cash flow has always been seen as a key indicator of company health, and we are pleased to note that our operating cash flow in 2023 has improved significantly compared to previous years. The operating cash flow in 2023 decreased by nearly 20% compared to the previous year. It is worth noting that the operating cash flow in the fourth quarter reached a record high of about 161 million RMB, an increase of 91% year-on-year. This indicates that the business is moving in a healthier direction. Looking at the segmented markets, both learning services and online marketing services generated positive operating cash flow, giving us confidence in further improvement in operating cash flow in 2024. We expect that by 2024, our operating cash flow will continue to maintain this positive momentum. Firstly, we will continue to improve our ability to generate cash flow by utilizing artificial intelligence technology and optimizing business operations in 2024. In addition, improvements in product performance and sales channel management in the smart hardware segment market are expected to increase the cash generation capability of this segmented market. It is also worth noting that cash flow shows seasonal variations, with the second and fourth quarters being stronger seasonally, mainly due to user acquisition and retention in the learning services business during that period. Furthermore, Netease has been providing financial support to Youdao in the long term. For example, Netease disclosed a $300 million revolving loan facility in our ER, with a maturity date of March 31, 2027, which will aid in the development of the Youdao business, especially in our long-term investments in core technology.