UDAO posts RMB 1.6 billion in Q3 revenue, with a 51.1% surge in online marketing offsetting declines in learning services revenue.

OPERATOR - (00:00:00)

Good day and welcome to Youdao third quarter 2025 earnings conference call. Today's conference is being recorded. At this time. I would like to turn the conference over to Mr. Jeffrey Wang, Investor Relations Director of Youdao. Please go ahead.

Jeffrey Wang - Investor Relations Director - (00:00:23)

Thank you Operator Please note the discussion today will contain forward related to the future performance of the Company which are intended to qualify for the Safe Harbor Fund liability as established by the U.S. private securities litigation Reform Act. Such statements are not guarantees of the future performance and are subject to certain risks and uncertainties, assumptions and other factors. Some of these risks are beyond the Company's control and could cause actual results to differ materially from those mentioned in today's press release and this discussion. A general discussion of the risk factors that could affect Youdao's business and financial results is included in certain company filings with the U.S. securities and Exchange Commission. The Company does not undertake any obligation to update this forward looking information except. As required by law. During today's call, management will also discuss certain non GAAP financial measures for comparison purpose only. For the definitions of non GAAP financial measures and reconciliations of GAAP to non GAAP financial results, Please see the 2025 third quarter financial results news release issued earlier today. As a reminder, this conference is being recorded. A webcast replay of this conference call will also be available on Youdao's corporate website at ir.udao.com joining us today on the call from Youdao Senior Management are Dr. Feng Zhou, our Chief Executive Officer, Mr. Lei Jin, our President, Mr. Peng Su, our Senior VP and Mr. Wayne Li, our VP of Finance. I will now turn the call over to Dr. Zhou to review some of our recent highlights and strategic direction.

Dr. Feng Zhou - Chief Executive Officer - (00:02:23)

Thank you Jeffrey thank you all for participating in today's call. Before we begin, I would like to remind everyone that all members are based on renminbi unless otherwise stated. In the third quarter, our strategically prioritized businesses, Youdao Lingshi and Online Marketing Services delivered a strong momentum supporting our long term growth trajectory. Net revenues reached RMB 1.6 billion up 3.6% year over year. Operating profit was RMB 28.3 million, a decline of 73.7% year over year primarily due to two factors. First, following the significant operating profit improvements in the first half of the year, we increased investments in Youdao Lingshi and our online marketing services in Q3 to accelerate medium to long term expansion. Second, we faced a high comparison base from the same period last year due to a one off impact from the STEAM courses. Our restructuring of the learning services segment is now complete. For the first nine months of the year, operating profit reached RMB 161.1 million, representing a substantial 149.2% year over year increase and highlighting the meaningful progress we have made in enhancing our profitability. Notably, we have now achieved operating profits for five consecutive quarters, the first in our history from a cash flow perspective. Operating cash outflow for the quarter was RMB 58.6 million, an improvement of 2031.4% year over year. Next I will delve into the major developments across our businesses. Net revenues from the learning services segment were RMB 643.1 million down 16.2% year over year, reflecting our disciplined and strategic approach to customer acquisition as we focus on growing the Linsu business. Within the learning services segment, net revenues from Digital content services were RMB 425.9 million during the quarter and our achievements in digital learning have gained international recognition. Yudao was included in the 2026 GSV150, a list that highlights the world's most transformational growth companies in digital learning and working workforce skills selected from more than 3,000 global companies. Turning to your darling Shi, one of our key strategic businesses, we made solid progress during the quarter by diversifying its customer acquisition channels. Youdao Lingshi accelerated achieved over 40% year over year growth in gross billings. More recently, retention rate has exceeded 75%, up from over 70% in the fourth quarter of last year. In addition, as part of our broader commitment to cultivate innovative talent, we collaborated with the Yao Mathematical Science center at Tsinghua University, Providing technical support to a platform designed to identify and support mathematically gifted students students. The system is currently being piloted in top tier schools with a national rollout planned. Following further refinements in terms of our programming courses, we introduced an AI tutor for live programming classes in the third quarter. Featuring a lifelike avatar and supporting both text and voice interactions, the AI tutor helps answer students questions in real time, significantly enhancing the overall learning experience with ongoing product upgrades. Gross billings for our programming courses increased by more than 30% year over year in Q3. Additionally, we continued our deep collaboration with the China Computer Federation CCF and are honored to have become a Golden Partner on the app site. Total sales of our AI driven subscription services reached a new record of approximately RMB 100 million in the third quarter, representing over 40% year over year growth. We launched our Confucius 3 translation model which supports real time bi directional translation across 38 languages and offers advanced multimodal capabilities. Despite its Compact parameter size, Confucius 3 translation delivers translation quality that surpasses some larger general purpose models. In August, our Confucius 3 Series LLM was among the first to receive the highest level trusted AI education large language Model certification from the China Academy of Information and Communications Technology. Regarding product development, we introduced a major upgrade to our flagship you Dao Dictionary app, Uda Dictionary 11, delivering a truly AI native experience that has been met with widespread user acclaim. A key highlight is the fully redesigned AI Simultaneous interpretation feature powered by industry leading noise reduction technology in our proprietary turn detection algorithm. It achieves top tier voice translation accuracy with exceptionally low late. The feature also received a one click summarization of translated content and automatically generates mind maps, significantly improving user efficiency across both learning and work scenarios. These enhancements have been well received, driving over 200% year over year growth in sales of the AI Simultaneous Interpretation feature during the third quarter. To date, more than 20 million users have engaged with this capability. We have launched a new AI audio and video translation product, Yudao Anydao in the third quarter to automate multilingual production of content such as TV shows, marketing videos and more. It leverages our proprietary adaptive voice cloning technology to learn a speaker's vocal characteristics and generate natural, fluent and emotionally rich dubs. The system delivers optimal translation results by holistically considering key factors including voice speaker identity and even video scene transitions to produce dubbing that is more accurate, contextually aligned and precisely suited the creator's intended purpose. Turning to our online marketing services segment growth accelerated in the third quarter. Net revenues reached RMB 739.7 million, a new record and an increase of 51.1 year over year. The strong performance was primarily driven by increased demand from the NetEase Group and overseas markets, which was driven by our continued investments in AI technology. Gross margin for the segment was 25.4% in Q3, moderated roughly 10 percentage points year over year, but largely stable sequentially remaining within our long term target range of 25 to 35%. We continue to rapidly expand our new client base during the quarter to support future growth. Advertising revenues from the gaming industry, mainly contributed from NetEase, grew by over 50% year over year. We assisted NetEase games with a growing number of programmatic advertising and influencer marketing campaigns. For example, in promoting the blockbuster title Where Wins Meet, we executed comprehensive integrated marketing strategy that generated over 500 million video views and more than 21.4 million live streaming exposures. Looking ahead, we plan to further deepen our collaboration with the NetEase group and other game clients to unlock additional synergies. Our overseas advertising business also delivered strong momentum with revenues growing by more than 100% year over year. We are pleased that our BYD WonderLife Global Influencers collaboration Co Creation campaign received the Brands and Creators award at the YouTube Works Awards China. Looking ahead, we plan to further deepen our collaboration with Google and with global advertisers to better support Chinese companies in expanding their global presence. We continue to drive improved advertising performance by our ads AI Ad Placement Optimizer it is an end to end AI powered Agentix solution covering demand analysis, strategy formulation, data analytics and iterative optimization. In addition, I am thrilled to share that we will launch AI Ad placement optimizer version 2 by the end of this year. Please stay tuned Moving to our Smart Devices segment, net revenues were IMB 245.8 million during the quarter, down 22.1% year over year. This reflects our strategic decision to exercise greater discipline in marketing expenditures focusing on strengthening the segment's operational health. As a result, we saw year over year improvement in the segment's fundamentals during the third quarter. Product wise, we launched a new tutoring plant, Udao Space, which offers precise scanning for long form and multigraphic problems, AI powered video explanations for academic prompts and an AI based mistake ledger. These features empower students to learn and review subjects more effectively and efficiently. Our dictionary pen and tutoring pens were also featured at the World AI Conference, receiving strong exposure to new audiences and coverage from multiple media. Looking ahead, we will continue executing on our AI native strategy with a focus on deepening the application of and innovating with our large language model Confucius across both our learning and advertising businesses to consistently create value for our customers. Financially, we will maintain disciplined operations and remain confident in achieving the full year targets set at the beginning of the year, including robust year over year operating profits growth and reaching annual operational cash flow breakeven for the first time. With that, I will hand over to Sukhong for a deeper dive into our financial results. Thank you.

Sukhong - (00:13:49)

Thank you doctor so and hello everyone. Today I will be presenting some financial highlights from the third quarter of 2025. We encourage you to read through our press release issued earlier today for Further details for third quarter total net revenue RMB 1.6 billion or US dollar 228.8 million representing a 3.6% increase from the same period of 2024. Net revenue from our learning services were 643.1 million or US dollar 19.3 million, representing a 16.2% decrease from the same period of 2024. The year-over-year decrease was primarily attributable to our decisions to take a disciplined strategic approach to customer acquisitions which place a greater emphasis to high ROI return on investment engagements. We believe this strategy has enhanced the overall resilience and operational efficiency of our business. Despite the short term revenue decline. Net revenue from our smart devices will be 245.8 million or US$34.5 million, representing a 22.1% decrease from the same period of 2024. Our net revenue from our online marketing services were RMB 739.7 million or US$103.9 million, representing a 51.1% increase from the same period of 2024. The year over year increase was primarily driven by the increased demand from the netease group and overseas markets which was driven by our continued investment in AI technology. For the third quarter, our total gross profit was RMB 687.9 million or US dollar 96.6 million, representing a 12.9% decrease from the same period of 2024. Gross margin for learning services was 58.5% first quarter of 2025 compared with 62.1% for the same period of 2024. Gross Margin for smart devices was 50.3% for third quarter of 2025 compared with 42.8% for the same period of 2024. Gross margin for online marketing services was 25.4% for third quarter of 2025 compared With 36.3% for the same period of 2024. For third quarter we reduced our total operating expense to RMB 659. 6 million or US dollar 92.7 million compared with RMB 682.2 million for the same period of the last year. Looking at our expense in more detail, sales and marketing Expense declined to RMB 487.7 million compared with RMB 519.6 million in the third quarter of 2024. Research and developing expense for RMB 127.8 million compared with RMB 119.6 million in the quarter of 2024. Our operating income margin was 1.7% in the third quarter of 2025 compared with 6.8% for the same period of last year. For the third quarter of 2025, our net income attributable to ordinary shareholders was RMB 0.1 million or US dollar near to zero compared with RMB 86.3 million for the same period of last year. Non GAAP net income attributable to the ordinary shareholder for the third quarter was RMB 9.2 million or US dollar 1.3 million, compared with RMB 88.7 million for the same period of last year. Basic and dilute net income per ADS attributable to ordinary shareholder for the quarter of 2025 was near zero. Non GAAP basic net debt net income per ADS attributable to the ordinary shareholder for the third quarter was RMB 0.08 or US$0.01. Our net cash used in the operating activity was RMB 58.6%. Sorry, 58.6 million or US$8.2 million for the third quarter. Looking at our balance sheet as of the September 30, 2025, our contract liabilities, which mainly consist of the deferred revenue generated from our learning services will be 751.1 million or US$105.5 million, compared with RMB 661 million as of December 31, 2024. At the end of the period, our cash cash equivalent current and on current cash and short term investment total RMB 557.7 million or US$78.3 million. This concludes our prepared remarks. Thank you for your attention. We would now like to open the floor to your questions. Operator, please go ahead.

OPERATOR - (00:18:32)

Thank you. This is the Chorus Call Conference Operator. We will now begin the question and answer session. Anyone who wishes to ask a question may press star 1 on your touchstone telephone. From the question queue please press 2. Please pick up the receiver when asking questions. Anyone who has a question may press N1 at this time. First question is from Brian Gong City.

Brian Gong City - (00:19:03)

Thanks Operator. Thank you for taking the question. A very quick question for our strategies ahead. So our online marketing services are growing rapidly, kind of showing a different trend versus learning services. From strategic perspective, your online marketing services. Become more important than learning services in the future. Thank you.

Lei Jin - (00:19:29)

Hi Brian. So right now we are experiencing higher growth for ads compared with learning services in the long term. We actually see great opportunities on both areas. So let me explain that for you. So the strong expansion of our marketing services over the past three years have been mostly driven by first our advanced ad tech and AI capabilities, then customers trained to transition from traditional ads to performance ads and finally opportunity of overseas ads. Since the advertising revenue first exceeded RMB 200 million in a single quarter in Q4 2022, it has reached a record high of over R&B700 million this quarter, so representing a year over year increase of more than 50%. So as we've discussed several times on this call, we believe our advertising business is still in the early days. The application of generative AI and agenti AI in online advertising is only just beginning. We see 2025 as the first year when generative agent take AI will be put to work on ads at scale. So we launched our MagicBox Ads Creative Platform in Q1 and our AI Ad Placement Optimizer, an Ad Automation Agent in Q2. These AI driven improvements in delivering the ads have strengthened the customer satisfaction already, which in turn encourages advertisers to allocate larger budgets to our platform, accelerating our growth. From a customer expansion perspective, we continue to see substantial opportunities across online games, E commerce, overseas online games, overseas electronics and through our deepening collaboration with partners such as Google and TikTok. So with all these reasons, we believe these will all drive strong revenue growth for the coming years, hopefully. So on the other side we also see a very good growth opportunities in our learning sector business. This part of our business, as you probably know, has undergone quite significant changes over the past two years largely because we actually believe there is tremendous long term potential to see AI driven online services. So AI is a decade long growth trajectory and capturing it require us to build and scale truly AI native services and application and that's what we've been doing. So on AI driven subscription services. So this part we began sharing our progress since last year and the trajectory is very promising. So total sales of AI driven subscription services amounted to approximately RMB50 million in the first quarter of last year if you remember. So it took us only six quarters to double that figure, reaching approximately RMB 100 million this quarter. So we are actively developing new features, applications and agents to support future growth expansion. A lot of agents are running inside our companies to improve our business efficiency. So we see ample product optimization opportunities ahead and expect the growth to continue. In the digital content segment, the learning content we have fully completed restructuring and have sharpened our focus on the lingqi business. In Q3, Yuda Lingshu delivered over 40% year over year growth in gross billings and demonstrated strong user stickiness and retention rate exceed 75%. So adding all that up in the near term we expect actually we expect net revenues from the entire learning services segments to return to year over year growth. So in summary, we remain firmly committed to driving growth across both our advertising businesses by continuing to serve our customers better and also leveraging AI Technologies better.

Brian Gong City - (00:24:43)

Yeah. Thank you. Thank you.

Linda Huang McGuire - (00:24:50)

Next question is from Linda Huang McGuire. Hello, can you hear me? Hello? Yes. Yes, we can hear you. Yes. Yeah. So thank you very much for this opportunity. So my question regarding for the online advertisement because since the second quarter this year we noticed that the gross margin below 30% maybe around like a 25%. So I just want to know that does the manager have any plan or like a timeline we can return back to the above 30% and what will we need to do to make sure that the margin can recover? So that's for online marketing. Thank you.

Lei Jin - (00:25:43)

I'll answer this briefly before Jinlei provides more more details. We always operate with the long term view and aim to increase the value we create for advertisers. We think that's most important. So in Q3 we saw strong opportunities to grow the customer base. So we chose to engage and onboard more customers and that is reflected in the revenue growth. You can see very quick revenue growth. On the flip side of that we. So we basically gave up some short term gross margin as new customers are less profitable and sometimes even we operate at a loss for particular important customers. So that is actually also true I believe for the for the learning side of the business. I just want to mention in Q3 so we invested in hiring more personnel for expanding Youdao Lingshi business in Q3 also for future growth. So we believe this kind of investment are very good investments and we have solid and profitable unit economics. We ensure we we have that and we think investments like these are going to translate to growth and profitability in the coming quarters.

Zhinle - (00:27:16)

Hi, this is Zhinle. Regarding the gross margin of our online marketing services business. The major parts are adopting the performance based advertising pricing model and the gross method revenue recognition which necessitates a balance between delivering value to our clients and sustain our own healthy long term development. Against this backdrop, we consider gross margin within the range from 25% to 35% to be a reasonable target. Our current objective is to drive an improvement in gross margins which we aim to achieved through several key initiatives. First, we plan to broaden the application of the MagicBox creative production process platform throughout the ad creation process. Compared to manual creation production, MagicBox reduce production costs by approximately 70% while improving production efficiency. By leveraging our end to end data chain to identify and analyze high performing creatives, we can scale the application better serve our clients and enhance overall delivery efficiency. Second, we will continue to optimize and upgrade our data management platform DMP and programmatic delivery system. This includes expanding data dimensions and many underlying data characteristics to improve audience and traffic insights. Those enhancements will enable more systematic and process identification of targeting audiences leading to a higher advertising delivery effectiveness. Third, we will capitalize our robust AI capabilities to further integrate AI driven creative production process with the advertising delivery process. By closely linking those functions with the data capabilities of dmp, we aim to establish an automated closed loop system that boosts the overall operational efficiency of our online services. Thank you.

Brenda Zhao - (00:29:50)

Thank you very much. Next question is from Brenda Zhao, cicc. Good evening Suzhong, thanks for taking my question. My question is also related to the profit margin because we see the operating profit experienced a year over year decline in the third quarter. What is the potential for rebound to year over year growth in fourth quarter? Thank you.

Supong - (00:30:27)

Thank you Brenda, this is Supong, I will handle the question. First and I think at the beginning of this year we set the two full year's financial goals. First is to achieve the rapid year over year improvement in operating profit and secondly to achieve the break even in full year operating cash flow. And if you see the performance of the Youtao in the first half of this year especially in the operating profit is in this in the operating profit in this year in the first half of 2025, I mean it's much better than that in the last year same time and sometimes improving from the 40 million RMB losses to the 130 million RMB. So I think that provide more flexibility for us to make more investments in the second quarter of the 2025 we step in the investment in the Youdao Lingshi in advertising the customer acquisition while maintaining the profitability and also we start to spend money in Youdao Lingshi to actually acquire the potential clients for the advertisement business and from the third quarter as the doctor mentioned before in our earnings call and you darling should deliver over 40% year over year GMV growth and increase the retention rate to the 75% over 75% and also we achieved about the revenue of the advertisements Growth over 50% in the Q3 in the 2025 and also the new clients account for over 30% of the total clients. So I think that will create great momentum and fundamentals for our business in the Q4 and next year and all for our fourth quarter's priorities. And at the same time I just try to explain in more details regarding the wealth impacts of our our record, the learning service business and in Dr. Mentioned before and in the last year STEM courses still account for the meaningful percentage of our revenue for our learning services and at same time in summer we shrink a lot significantly for the investment and for the courses for the customer acquisitions, but still deliver significant revenues in the Q3 that definitely have the impact of our profitability since the last year. That means the kind of high base in the in that we mentioned before. So I think that's the it's about the impact only for the this year. So our first fourth quarter's priority is to secure the rapid operating profit improvement from the a full year perspective online as the start of the year. In the meantime, we will continue to invest in our core business without Youdao Lingshi AI apps and as well as the online marketing services as we access the macro environment and our growth opportunities. Through this focus approach we aim to deliver the greater values to an expanding user space. Our medium to long term focus is on the executing on AI native strategy, excelling the deployment of our large language model computers in learning and advertising scenarios. Central to this effort is enhancing our sustained profitability while constantly evaluating the quality of our user services. Since its launching three years ago, our AI Interactive services of Yuda Linshi has integrated AI across the multi scenarios including the user's learning assessments, personalized the learning of the past recommendations, QA sessions, assignment grading and as well as the quality application consultants. This has enhanced the learning efficiency and outcome for users gathering respiratory positive feedback as the highest Gross Martin business within our Linux services segments and following the recent restructuring of these segments, Liu Dao Insurance is expected to account for the growing share of segment revenue. This in turn expect to continue to improve the profitability of the Linux services segment in the long run. Regarding the online marketing services, as noted previously, AI contributed to enhanced delivery and operational efficiency in area including the ad creative production, data mining, programmatic delivery and also attribution analysis. These advancements deliver in midterm and long term the profitability improvement of these segments. I think I hope that answer your question.

Brenda Zhao - (00:35:38)

Thank you. That'S very helpful. Thank you. Next question is from Bo San.

Bo San - (00:35:52)

Hello, thanks for taking my question. My question is given the cumulative net operating cash outflow recorded in the first three quarters, should we expect any change to the four year breaking even target? Thank you.

Wen - (00:36:12)

Thank you for your question. This is wen our team attached great. Importance on the performance of our operating. Cash flow and we already got a remarkable improvement in optimizing our operating cash flow performance in recent years. For 2025 we set a target to achieve four years cash flow break in and we remain very confident to achieve this target. At the same time we'd like to emphasize that reaching this break even point is only a near term milestone, our long term objectives definitely is to deliver even healthy performance in operating cash flow through and the profitability enhancement to simplify the credit credit management and optimize working capital practice. As you mentioned, for the first nine months this year cumulative net operating cash flow amounted to 129 million. However it reflects over 40% significant improvements on a year over year basis. In addition, our quarter cash flow performance helped of various seasonal features which are driven by certain seasonal factors. For example, Q1 is typically annual bonus payment period due to the lunar New Year and Q3 is traditionally peak user acquisition period during which operating cash flow typically registers a net outflow due to the. Marketing investment. In contrast, Q2 and Q4 are retention driven seasons and generally demonstrate stronger cash flow performance. So we expect the fourth quarter usually generates good operating cash inflow. To provide context, as you know we achieved operating cash inflow of RMB158 million in Q4 last year. As previously highlighted, our restriction in learning service have been complete. You Da Lingshi in particularly has demonstrated robust retention momentum in Q4 maintaining a retention rate above 75%. Additionally, another prepaid service, our AI driven subscription services, Q3's sales from these business has accelerated growth to over 40% year over year which also positively support our cash flow position. On the other hand, the expansion of our advertising business potentially brings certain collection time dynamics which potentially slow down the cash inflow from our customers. For example, online marketing services typically provide a certain credit terms to our premium clients. Through results from the 3/4, we are satisfied for the performance of cash collections and the credit terms are well managed. Taking into account the distinct seasonality of our operations, the significant year over year cash flow improvements in the first three quarters, and the potential strong retention performance from you Dao Lingshi in Q4 we maintained confidence in achieving our full year operating cash flow breakeven targets. Thank you. Thank you.

Bo San - (00:40:11)

That's a ha.

OPERATOR - (00:40:17)

That concludes our question and answer session. I would like to turn the conference back over to management for any additional or closing remarks.

Management - (00:40:28)

Thank you once again for joining us today. If you have any further questions, please feel free to contact us at UDA directly or reach out to Pearson Financial Communications in China or the us Have a nice day.

OPERATOR - (00:40:46)

Ladies and gentlemen, thank you for joining. The conference is now over. You may disconnect your telephones.