2Q24 revenue was basically in line with our expectations, and losses were better than expected

The company's 2Q24 results: revenue of 6.127 billion yuan, up 15.5% year on year, basically in line with market (6.1 billion yuan) and our (6.3 billion yuan) expectations; non-GAAP net loss of 0.272 billion yuan, better than the market (-0.33 billion yuan) and our (-0.32 billion yuan) expectations, mainly due to good cost control.

Development trends

Advertising continued to perform well, and the game business regained growth. Advertising: 2Q24 revenue also increased 30% to 2.037 billion yuan. The company said it would further improve advertising products and infrastructure in the second quarter to enhance commercialization efficiency; at the same time, in the “618” marketing node in the second quarter, e-commerce customers also increased 300% in advertising on Station B. We believe that the efficiency of the company's commercial infrastructure will gradually be unleashed, or that 2H24's advertising business will continue to grow significantly. Gaming: 2Q24's revenue also increased 13% to 1.007 billion yuan. We judged that “Three Kingdoms: Determining the World” had an incremental contribution; at the end of 2Q24, the company's contract liabilities increased by 0.74 billion yuan compared to the end of 1Q24. We believe that the game business accounted for a certain share. We recommend focusing on the revenue recognition volume of “Three Masters” in 3Q24. The company said “Three Tricks” will be positioned for long-term operation. The game began the S2 season in early August and climbed back to 3rd place in the iOS game bestseller list. We recommend paying attention to the continuation of subsequent sales performance. Value-added services: 2Q24 revenue also increased 11.5%.

Operational efficiency continues to increase, and cash flow has improved markedly. Focus on 3Q24 profit side performance. 2Q24 gross margin also increased by 6.8ppt to 29.9%. We judge that it is mainly driven by high-margin gaming and advertising businesses. We believe there is still room for gross margin growth in the future. Expense control was effective. In 2Q24, the sales/management/R&D expense ratio was reduced by 0.4/2.2/5.1ppt to 16.9%/8.0%/14.6%, of which part of the sales expenses was the marketing investment of “Three Tricks”. Cash flow improved significantly, and the company achieved a positive operating cash flow of 1.75 billion yuan (1Q24:0.64 billion yuan) in 2Q24. At the results meeting, the company stated that it will maintain non-GAAP operating profit or revise the target in 3q24, and look forward to future profit releases at the net profit level.

The user stickiness is good, and the content community ecology continues to develop healthily. The company's 2Q24 DAU and MAU were 0.102 billions/0.336 billion respectively. DAU accounted for 30.4% of MAU, up 0.6/0.4ppt month-on-month; 2Q24 users spent 99 minutes per day, up 5.3% year over year. We believe that the company has maintained user stickiness with its unique content community, and the commercial value of users is expected to continue to be released.

Profit forecasting and valuation

Considering that 2Q24 losses narrowed better than expected and 3Q24 profits are expected to be released, we adjusted the 2024 non-GAAP net loss from 0.193 billion yuan to 43.95 million yuan to maintain the 2025 non-GAAP net profit forecast. Currently, both Hong Kong/US stocks are trading 1.5/1.3 times 2024/2025 P/S. Maintain outperforming industry ratings and SOTP valuation methods, and maintain the target price of HK$151/$20 for Hong Kong/US stocks, all corresponding to 2.2/1.8 times 2024/2025 P/S. The potential upside for Hong Kong/US stocks is 42%/43%.

risks

The growth of the advertising business fell short of expectations, game traffic fell short of expectations, and the cost reduction and efficiency process fell short of expectations.