Event: Reading Technology Discloses the 2023 Three Quarterly Report. In Q3 of 2023, the company achieved operating income of 696 million yuan (yoy +2.65%) and net loss of 0.3 billion yuan (yoy -93.0%); in the first three quarters of 2023, the company achieved operating income of 1,963 billion yuan (yoy +5.39%) and net profit of 35 million yuan (yoy -7.31%).

Having the two major advantages of IP and user access, the short drama business is expected to become a new growth engine. In the first three quarters of 2023, the company achieved revenue of 1,963 billion yuan, an increase of 5.39% over the previous year. During the reporting period, the company further promoted the transformation and upgrading of its business structure. While steadily developing the free reading business, it also increased investment in innovative businesses such as skits. The company began working in the field of IP skits in 2021, has set up a professional skit production and operation system, and established the ability to output skits with high efficiency and high quality content. We believe that the company's entry into the short drama circuit has advantages in terms of IP reserves and user access, and is expected to enter the first tier of the industry:

1) In terms of IP reserves, the content routine for short dramas is similar to online text, and online text has become one of the main content sources for short dramas. The company has been engaged in digital reading business for many years. Its “Reading Literature” content incubation ecosystem has signed tens of thousands of authors. It exports high-quality original content to the content market through means of exploration, signing, training, recommendation, and derivative value-added, etc., and has accumulated rich online article IP reserves. At the same time, with the rapid development of the free reading business, the company's writer ecosystem is still improving.

2) In terms of user reach, promotion and distribution is an important cost item in skit operation, which directly affects the operating efficiency of the short drama business. The company has digital reading products that have accumulated a huge user base, such as reading apps and Tokai novels. At the same time, the short drama business has also set up channels such as Douyin applets, WeChat applets, and independent apps. Furthermore, through its experience in vigorously developing the free reading business, the company has accumulated user reach, operation and transformation capabilities, providing good support for the development of the company's short drama business, which is expected to drive rapid expansion of the short drama business.

Gross profit remains high, and investment in innovative business drags down profits. In the first three quarters of 2023, through vigorous development of free reading and traffic acquisition model transformation, the company's gross margin remained at a high level of 75.18%. However, due to the company's increased investment in marketing promotion and technology infrastructure for innovative businesses, expenses have increased. Specifically, in the first three quarters of 2023, the company's sales expenses were 1,193 billion yuan, up 8.88% year on year, and R&D expenses were 178 million yuan, up 17.90% year on year, but management expenses were relatively optimized.

Investment advice: The company continues to strengthen its reserves of high-quality content and explores the ability to commercialize high-quality content through diversified methods such as free reading, paid reading, short dramas, animation, and overseas trips. The company's revenue for 2023-2025 is estimated to be 29.78/325.18/3,962 billion yuan, an increase of 15.3%/18.1%/12.6% over the previous year. Net profit of the mother was 0.59/1.12/148 million yuan respectively, up 1.7%/90.3%/32.1% year on year, corresponding to PE 181/95/72 times, maintaining the “buy” rating.

Risk warning: macroeconomic recovery falls short of expectations, user growth falls short of expectations, competition for digital reading overseas intensifies, and technological progress falls short of expectations.