Dingdong (Cayman) Ltd ADR

Good morning and good evening, ladies and gentlemen. Thank you for standing by and welcome to the Ding Dong Cayman Limited second quarter 2021 earnings conference call. At this time, all participants are in a listen-only mode. We will be hosting a question and answer session after management's prepared remarks. Please note this event is being recorded. I'd now like to turn the conference over to the first speaker today, Karen Gee, Investor Relations Vice President, Department of the Company. Please go ahead, ma'am.

Thank you. Hello, everyone, and welcome to Dingdong's second quarter 2021 earnings call. With us today are Mr. Changlin Liang, our founder and CEO, and Ms. Le Yu, our CSO. You can refer to our second quarter 2021 financial results on our IR website at ir.100.me. You can also access a replay of this call when it becomes available a few hours after its conclusion on our IR website. Before we start, please note that this call may contain forward-looking statements made pursuant to the Safe Harbor provision for the Private Securities Litigation Reform Act of 1995. These forward-looking statements are based on management's current expectations and observations that involve known and unknown risks, uncertainties, and other factors not under the company's control, which may cause actual results, performance, or achievements of the company to be materially different from the results, performance, or expectations implied by these forward-looking statements. All forward-looking statements are expressly qualified in their entirety by the cautionary statement, risk factors, and the details of the company's filings with the SEC. The company undertakes no duty to revise or update any forward-looking statements for selected events or circumstances after the date of this conference call. I will now turn the call to our first speaker today, founder and CEO of Dingdong, Mr. Liang.

Good morning and good evening, everyone.

Thank you for joining us today on Dingdong's second quarter 2021 earnings conference call. This is our first earnings call since our IPO. Dingdong is the fastest growing company serving the on-demand consumer needs of China's retail industry and an industry leader after just four years of operating history. We extend our warmest gratitude to all the investors and analysts and thank you for your interest and support.

Happy to tell everyone that this year's second quarter, Dingdong's GNV has increased by 80.8%, reaching 537.8 billion RMB. In Dingdong's most mature long triangle region, GNV has also increased by 49.8%. This is due to the continued expansion of our order size. At the same time, the order stop of old users has also been significantly improved. In the second quarter of this year, the number of monthly orders has increased by 39.1% to 8.4 million. The number of monthly orders for green card members has increased from 6.7 times to 7.3 times. To further improve user contact, This year, Q2, Dingdong took the initiative to adjust the pricing strategy of some products and achieved good results. In the second quarter, Dingdong's first-class marketing system has been refined to manage marketing costs. In high ROI cities, at the level of high-quality users, we have increased the investment of marketing costs and spent the marketing costs on users with real value. We will continue to upgrade the first-class marketing system and further improve the efficiency of marketing.

We're delighted to report that our GMV in the second quarter of 2021 increased by 80.8% year-over-year to 5.38 billion RMB. Geographically speaking, we achieved 49.8% year-over-year growth in our GMV from our most mature markets in the Yangtze Delta region. Growth was mainly driven by growth in our consumer base and a significant increase in purchase frequency by our existing users on our platform. During the second quarter, the number of average monthly transecting users grew 39.1% to 8.4 million. Members of our Dindo membership program placed an average of 7.3 orders per month. compared to 6.7 orders per month in the first quarter this year. During the second quarter, we proactively adjusted our pricing strategies for certain products to enhance users' stickiness, achieving great results. Meanwhile, we launched a drip marketing system to refine the management of marketing expenses and increase our marketing investment to more effectively target high-quality users and cities with high ROI to invest our marketing resources in truly valuable users. Going forward, we'll continue to upgrade and optimize the system to further improve our marketing efficiency.

At the same time, the expansion of the new area in the new city has also achieved good results. Guangzhou is the sixth most-readed city after Shanghai, Shenzhen, Suzhou, Hangzhou and Beijing. And in the three or four-line cities, the running speed of single-deck, single-deck, Japanese-made orders is higher than that of Shanghai, Hangzhou and Suzhou. We can clearly see the acceptance and recognition of users of the down-to-earth market for the time-honored model.

Moreover, we continue to expand into new geographic regions and markets at a rapid pace. Following Shanghai, Shenzhen, Suzhou, Hangzhou, and Beijing, Guangzhou became the sixth city exceeding and maintaining a monthly GMV of more than 100 million RMB. In addition, growth rates in average daily orders per frontline fulfillment station was more rapid in third-tier and fourth-tier cities. outpacing growth rates in first- and second-tier cities such as Shanghai, Hangzhou, and Suzhou. We can clearly see increasing acceptance and recognition of our on-demand home delivery business model in lower-tier cities. As this is our first earnings call since our IPO, I would like to take this opportunity to introduce the underlying logic and rationale of Dingdong's business model.

Fresh and daily consumption in China is a market with a annual scale of more than 100 million yuan, which is a fast-growing market. But at present, the market is very high. The market and traditional shopping have the pain points of supply and demand. At the same time, China's consumption upgrade is a big trend and the biggest profit. And the upgrade of user demand will definitely promote the development of new models.

China's fresh groceries and daily necessities consumption has experienced substantial growth in recent years, as the market size reached over 10 trillion RMB in 2020, according to the Chinese Insight Consultancy. However, the traditional and offline retail models, which currently occupy the majority of the industry's market share, have numerous pain points. which lead to low efficiency on the supply side and inability to meet evolving consumer preferences on the demand side. Meanwhile, China's consumption upgrade is a major trend and a key driver of growth and expansion of the industry. These evolving user demands inevitably promote the rapid development of innovative business models.

We are building a social infrastructure that is as close to home as the自来水.

As such, we developed a frontline fulfillment grid model to effectively achieve rapid delivery of quality fresh groceries and daily necessities. Each of our self-operated frontline fulfillment stations directly serves the modern households in their nearest respective neighborhoods, providing consumers with immediate delivery of more cost-effective fresh groceries, daily necessities, and services beyond their expectations. Leveraging our upgraded business model through the combination of Costco's model with on-demand delivery within 29 minutes, we aim to build a highly integrated on-demand e-commerce infrastructure spanning procurement, fulfillment, and delivery that is as readily available to every household as running water.

We hope that in the future, Dingdong Maicai will become the fifth largest Taoist social infrastructure in addition to water, electricity and internet. In the future, users will be able to open Dingdong Maicai and get fresh and daily necessities as quickly as opening a snowmobile today. Time is the biggest factor in changing the world. Dingdong Maicai will accompany time from the previous one to three days. We expect that Dingdong will be the fifth infrastructure next to water, electricity, gas, and internet in the lives of future households.

We're dedicated to making fresh groceries and daily necessities on the Ding Dong platform as readily available as running water for every household. Time is one of the greatest factors that can change the world. Ding Dong has reduced delivery times from an average of one to three days in the past to just half an hour today. With the rapid development of the social infrastructure built by Dingdong, we believe we are on our way to becoming a leading consumer company in the new era. Construction of social infrastructure has great social value but also comes with high barriers to overcome. Though it will be difficult and take a great amount of time, it is the honorable thing to do. In order to achieve this goal, Dingdong is making great efforts to further upgrade our capabilities in the following three aspects.

First and foremost, we'll further enhance our supply chain capabilities in the planting, breeding, processing, and production processes.

As we all know, traditional fresh grocery supply chains are redundant and it's inefficient. For upstream planting and breeding, we proactively participate in the process and leverage our proprietary DGAP, a set of good agricultural practices for production safety and sustainability, and our agricultural technology to upgrade the supply side. This effectively allows us to resolve challenges in terms of market access, demand projection, price volatility, and digitalization of traditional models. Moreover, this helps ensure the stability of the supply, price, and quality of our products, which is in line with China's strategy of rural revitalization.

For the production processing part, we will go deeper into this part in various ways. For example, maximizing the use of advanced equipment to build a free production flow line, while improving the efficiency and quality of production, we can also acquire the labor of production. For the category of parts with a large production efficiency and production efficiency, we will rely on the understanding and data accumulation of consumers, For example, our self-developed free brand Quanjixia has achieved more than 80 million JVs in just two months. Free brand products have also increased the price and retail price while increasing the number of users. The price of Quanjixia is 33.8% higher than the overall price of Quanjixia, including the retail price of Quanjixia's orders.

We'll participate in production and processing in various ways. For example, we plan to maximize the use of advanced equipment to build our own production lines while increasing production efficiency and quality to improve gross margin. For high gross margin product categories that are easily scalable, we'll continue to utilize our in-depth consumer insights and data analytics to develop private label brands. For example, our private label brand, Boxing Crayfish, has generated a GMV of more than 80 million RMB in just over two months after its launch. Our private label products not only enhance user loyalty, but also improve our gross margin and average order value. The pre-coupon gross margin of Boxing Crayfish was 33.8%, higher than our overall pre-coupon gross margin. The average order value for orders including boxing crayfish reached 98.9 RMB, 73.9% higher than the average order value of total orders. Our private label brands will achieve rapid growth in the future. By continuously improving our product offerings, we are able to meet the ever-changing needs of consumers and create greater commercial value.

Second, we will continue to improve the technical capabilities in the supply chain system, selection center, automation, data algorithm, and other three aspects of the supply chain system in the industry. We will continue to optimize so that we can fully utilize data to improve the efficiency of supply chain and various operating systems. We are introducing more automated equipment. In the future, we will improve decision-making and decision-making efficiency through artificial intelligence technology. At the same time, we will improve the ability to predict and recommend through data algorithm. The ability to improve the ability of these three technologies will be used to reduce the effect. Second, we'll continue to strengthen our technical capabilities in our supply chain system, the automation of regional processing centers and frontline fulfillment stations, and our data algorithm.

We'll further optimize our industry-leading supply chain system and utilize data to improve the efficiency of our supply chain and operations. We're currently implementing more automation equipment at our regional processing centers and frontline fulfillment stations. And we'll also introduce artificial intelligence technologies to further improve decision-making processes and order fulfillment efficiency. Meanwhile, we'll continue optimizing our algorithm capabilities to enhance our projections and recommendations. Improvements in these technical capabilities will further enhance our efficiency, reduce operating costs, and enable us to better serve our customers. Technology-empowered operations create significant value in all aspects of our businesses and are a fundamental driving force for Dingdong to stand out in the industry.

Third, continuous expansion and improvement. From the perspective of expansion, Dingdong has expanded to 36 cities. These 36 cities belong to four cities. There are 19 cities in China. These are the areas that we will expand in the future. The scale of these cities is more than 60% of China's overall size. We believe that through the expansion of the area in the future, we will have a very large growth space. At the same time, our organizational ability will be fully improved.

Third, we'll continue to expand our geographic coverage and improve our unique economics. In terms of geographic coverage, we have expanded to 36 cities in four metropolitan regions. There are 19 major metropolitan regions in China, which accounts for 60% of China's total consumption. We expect to expand our operations to all 19 metropolitan regions in the future. We view geographic expansion as a major growth opportunity and will continue to improve our operational capabilities at the same time. Meanwhile, we'll work harder to strengthen our operational and management capabilities to achieve self-sufficient capacity. We'll continue to increase our user penetration rate and user wallet share through constant improvements in our products and service offerings. As a result, average daily orders and transaction amounts per frontline fulfillment station, order density, and efficiency of our frontline fulfillment stations will continue to increase. Our unit economics will keep improving accordingly.

Next, while continuing to grow, we will work hard to improve the efficiency of the supply chain and the operation of the company. Through technology and management, we will reduce the effect of the powder as an important goal of the company. We will first achieve regional profit in the urban area, and then expand the profit target to more areas across the country.

Going forward, we will also continue to improve our technology and management capabilities to optimize our supply chain and operational efficiency while maintaining sustainable growth. We aim to become profitable in our mature markets first, then scale our profit goals to more markets across the nation.

Dingdong Maicai is a public chain company that is deeply involved in planting, raising, and breeding. It has grasped the power of consumer development. It has a huge growth space in the huge family consumer market and does not attack monopolies. We provide better products and better services at reasonable prices for the people's happy life struggle as they grow day by day. At the same time, we are also in line with the double cycle advocated by the country to improve the physical economy and other development trends.

Dingdong, by nature, is a supply chain company that is deeply involved in planting, breeding, processing, and production processes as to capitalize on the growth potential of China's consumption upgrade. There is significant room to grow in the enormous household consumption markets, and there is no monopoly evolved. We simply strive to provide better products and services at reasonable prices and be a part of increasing people's happiness. Moreover, our goals are in line with the domestic development trend of dual circulation and improving the real economy.

To conclude, we'll stick to our customer-centric approach and keep taking the difficult but just paths.

Following the developmental trend, we are confident that we'll realize our long-term value and create long-term value for our investors.

Thank you. Thank you, everyone. With that, I'll hand the call over to Ms. Yu of CSO to go over the financials.

Thank you, Mr. Liang, and hello, everyone. Before I walk you through our detailed financial results, please note that all numbers stated in the following remarks are in RMD terms, and all comparisons and percentage changes are on a year-over-year basis, unless otherwise noted. Our total revenue reached $4.65 billion, representing a tremendous 77.9% year-over-year increase. In the second quarter last year, consumer purchasing patterns shifted from offline to online channels as a result of the pandemic, which drove our revenue up significantly. While the pandemic had a limited impact on our business in the second quarter this year, we still maintain our strong year-over-year growth momentum. During the quarter, we expanded into seven new cities, including Xiamen and Chongqing, where we have seen strong growth momentum. For example, we launched in Xiamen at the end of May and have already achieved every daily order for frontline fulfillment station exceeding 1,300 in July, which demonstrated the strong demand in the second and third tier cities. Having said that, our 29 existing markets continue to be the primary driver of our revenue growth during the quarter. As of June 30, 2021, we have expanded our coverage to 36 cities. In only six of these cities, we have completed comprehensive coverage of all urban areas. Going forward, in addition to geographic expansion in new markets, we will continue to enhance our coverage and penetration rate in existing markets. We believe there is still tremendous growth potential in our existing markets. In terms of profitability, our gross profit margin decreased on a year-over-year basis. As Mr. Liang mentioned earlier, during the culture, we proactively adjust the pricing strategy to improve customer purchase frequency and customer retention and achieve great results, driven by the continued optimization of our supply chain, development in our private label products, and improvement in ROI or marketing expenses through our new drip marketing system, for which we have witnessed initial success in the third quarter. Our growth margin is expected to improve while our rapid growth trajectory continues its momentum in the next quarter. Fulfillment expenses in the culture were $1.69 billion. As a percentage of total revenues, fulfillment expenses improved to $0.365 from $0.39 in the first quarter of this year. Meanwhile, average fulfillment cost per order decreased significantly from $20.6 in the second quarter last year to $17.9. Increasing order density is an important driving force for improving our order fulfillment efficiency, and the average daily order per frontline fulfillment station is an important indicator of overall order density. During the second quarter, we opened 147 frontline fulfillment stations in new and existing cities, reaching 1,136 total frontline fulfillment stations as of the end of this quarter. Although opening new stations may negatively affect the overall average daily orders performed by fulfillment stations, the average daily order performed by fulfillment stations in the second quarter still increased by more than 20% to 1,000 orders. Due to the pandemic, user acquisition in new markets was fairly limited in the second quarter of last year, As a result of our expansion to several new cities during the quarter, our new user count in the second quarter of 2021 was more than twice that of the same period last year. Accordingly, selling and marketing expenses as a percentage of total revenues increased year-over-year. In the third quarter, we expect to maintain rapid year-over-year growth in new and customer acquisition while decreasing our selling and marketing expenses as a percentage of total revenues on a quarter-over-quarter basis at the same time. We have already seen improvement in our user acquisition efficiency in July and August thus far. Excluding share-based compensation expenses, our general and administration expenses as a percentage of total revenues decreased to 2.3% from 2.9% in the second quarter last year, driven by our growing economics of scale. Technology and data will create significant value in all aspects of our business. and we increased our spending on product development during the culture. As a percentage of total revenues, product development expenses increased to 4.4% from 2.4% in the prior period. We believe investment in product development will continue to drive greater value generation for Dingdong in the near future. Our non-GAAP net loss was $1.73 billion in the second quarter, while our non-GAAP net loss margin extended slightly to 37.2% from 36.2% in the previous quarter. As we remain committed to cost reduction and operating efficiency improvement, we are confident that our net loss margin will keep improving in the third quarter and the fourth quarter of 2021. Net cash outflow from operating activity was $1.62 billion in the second quarter. Considering supply chain finances, an adjusted net cash outflow from Operating activity improved to less than $1 billion. Our CapEx in the second quarter was $0.07 billion. Our cash, cash equivalents, restricted cash, and short-term investments totaled $7.29 billion as of June 30, 2021. To sum up, we achieved robust growth in the second culture in both new and existing markets. As overall use thickness and purchase frequency continue to improve, transacting members of Ding Dong membership program grew by 85% year-over-year, representing the strength and loyalty of Ding Dong's users. For the third quarter, we expect to see a 100% year-over-year increase in total revenues, an improving gross margin, and a narrowing non-GAAP net-loss margin. Non-GAAP net-loss margin will be narrowed in the third quarter and will be further narrowed in the fourth quarter. In Shanghai, where our business is more mature, we expect to see improved unit economics in both gross margin and fulfillment efficiency. and deliver a positive operating profit in terms of unit economics in the fourth quarter of this year. This concludes our prepared remarks for today. Operator, we are now ready to take questions.

Thank you. We will now begin the question and answer session. To ask a question, you may press star, then 1 on your telephone keypad. If you're using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star, then 2. When asking the question, please state your question in Chinese first, then repeat your question in English for the convenience of everyone in the call. At this time, we'll pause momentarily to assemble our roster. Our first question comes from Eddie Wang from Morgan Stanley. Please go ahead.

Hello, Mr. Liang, Ms. Yu. I'm Morgan Stanley Eddy. Thank you very much for accepting my question. First of all, congratulations. The growth of G2's entire performance is very strong. The growth of the guidance given by G3 is also very strong. I may ask a question related to competition. As you said, the growth of G2 and GNV is very strong. The guidance given by G3 is also very strong. But if you look at other models that are also fresh, including the market purchase, in the last two months of the second quarter, including the third quarter, the entire growth has slowed down. So I want to ask, what do you think is the reason for this comparison? Thank you, management, for taking my question. My question is about competition. We noted that in the second quarter, Dingdong actually recorded quite strong GMV growth, and we expected that in the third quarter, the GMV the total revenue could also grow like over 100% year-over-year. However, on the other hand, we actually noticed you know, the other online grocery, the format such as a good buy purchase, then it's actually experienced a little bit slowing down. So how do you think the, you know, the reason behind, you know, the gap of the growth between two business model and how do you think, you know, the long-term, you know, competition between these two models? Thank you.

Thank you. This question is very good. I think, first of all, from the business model, Dingdong provides a service that takes half an hour to get home, and the cost of the product is higher than a traditional supermarket. Then the community group provides a service that needs users to go to the team leader to ask questions. The price of the product may be lower than Dingdong, but the quality of the product is also significantly lower than Dingdong. So Dingdong has caught the popularity of consumer development, and the community group has caught the popularity of low-cost people.

Thank you. Yeah, thank you for your question. It's a great question. Actually, from a business model perspective, Dingo offers customers on-demand home delivery service within 30 minutes, and also our pricing is much more attractive than traditional supermarkets. Community group buy models actually only deliver orders to certain collection points, usually in the morning, for the morning during the next day for consumers to do self-pickup. Community group buy models actually generally deliver offer lower quality products at a lower pricing level than Ding Dong. Therefore, we actually have captured the tailwind of consumption upgrades, whereas Community Group Buy captured the demands of consumers who are more price sensitive.

We see that in the vast Chinese consumer market, there is a great opportunity for consumer improvement and decline. Although Pinduoduo is growing rapidly in the lower market, Jingdong is also becoming a company with more than 400 million purchases a year with its fast logistics and high-quality products. Jingdong has achieved rapid growth through the construction of more electrified services and deeper supply chains than Pinduoduo. And Shizuotanggong has a greater space for development through services with lower prices than Pinduoduo. Because Dingdong and Shiju Group are different in terms of customer service, in terms of product selection, logistics system, brand quality, team culture, and so on. And both of them have different target markets in the current and short term. In the Chinese market, both of them have different target users and different consumer products. Just like Pinduoduo, it doesn't occupy the core market of Dingdong. Just like the core users, Shiju Group will not affect Dingdong's development.

In China's enormous consumer market, there are great opportunities to capture for consumer consumption upgrades and consumption downgrades. While TDD is growing really fast in lower tier cities, JD.com has actually grown to a company serving over 400 million yearly purchasing users with its efficient logistic infrastructure and quality goods. So Ding Dong has achieved rapid growth with our even more convenient services and deeper involvement in the supply chain than JD.com. Meanwhile, community group buy models also have huge opportunity and potential with its even cheaper services than PDD. As we serve different types of consumers with community, you know, compared to community group by models, actually we feature a lot of differences in terms of our merchandise selection, logistic infrastructure, our branding mindset, and also our company philosophy and culture. So if you look at today and look at a short term in the future, we are actually, as two companies, are targeting different addressable markets, and we target different consumer groups and different consumption scenarios, even though we do have overlapping markets. Just as PDD does not occupy the core market and core consumers of JD.com, we believe community group buy models will not cannibalize the growth of DingDong.

If you look at this year, community group buy model actually achieved relatively stable growth, whereas Dingdong continued our rapid growth momentum.

In terms of geographic coverage, we only penetrate 36 cities, while almost every community group by company actually has covered over 2,000 cities. So if you break it down, we actually have larger scale in cities that we enter, and we have more room to grow in the future.

Finally, I would like to talk about the opportunities and benefits of community shopping. Community shopping has helped us develop our online shopping habits in the offline market. We found that in a good city where community shopping is done, we can make more money faster. For example, 1st, 2nd street is Guangzhou, Chengdu. 3rd street is Dongguan, Changzhou, etc. Thank you.

Last but not least, I would also like to highlight that actually community group buy models help us cultivate the market and help boost the online shopping habits of consumers in lower tier cities. We have discovered that we actually grow faster in cities where community group buy models had better performance. We have validated this in first-tier and second-tier cities, such as Guangzhou and Chengdu, and third- and fourth-tier cities, such as Dongguan and Changzhou, et cetera.

Thank you.

The next question comes from Ashley Zhu from Credit Suisse. Please go ahead. Hello, Ashley, is your line muted? Hi, Ashley, is your line muted? All right, the next question comes from Joyce Ju from Bank of America. Please go ahead.

Hello, everyone. Thank you very much for giving me this opportunity to ask questions. I also congratulate this season for having a very good performance. The second question is from the construction of free brand. In the medium term or long term, it will be a very important driving force for our interest rate to rise. So from the current state of the free brand, can you give us more introduction? Currently, what is its G&E ratio, revenue ratio, scale, and profit ratio? Let me translate my question. My first question was related to the regulations. We have seen there were a series of policies recently being released regarding the fair trade, cybersecurity and also the organic listing of ADRs. Just want to check if the company having been in communication with the regulators in terms of these, you know, problems or like questions and any feedback or like, you know, any guidance from the regulator side and which the management can share with us. And the second question was related to our private label. We know the private label will be a key driver for the mid- to long-term growth margin improvement. Just want to get more colors in terms of our private label development plan. What's the current situation in terms of GMV contribution, revenue, growth margin, and the cooperation model? And in the future, how this will evolve and in the long term with our target? Thanks a lot.

Okay, thank you. These two questions are the ones that everyone is particularly concerned about. First of all, I would like to answer the first question in detail. We look at it from several aspects. First, we are also very determined to support the country's policy adjustment and understand the logic behind these policies. We will adapt to the needs and development trends of the times and strive to meet the needs of the people who are willing to grow and live happily. Please translate.

Thank you. Thank you for your questions. I know that these questions actually have drawn a lot of attention, so let me respond to them one by one. In regards to your first question, first of all, we would like to express our full support for the regulatory changes, and we understand that all of the rationale behind these policies and regulation updates actually following the needs of time and development trends will strive to do our part to increase people's well-being.

Second, from the perspective of consumption, there is a very large range of fresh and used products in the industry. There are also very diverse consumption scenarios, which cannot be monopolized. We have grasped the momentum of consumer growth, which also fits the strategic pattern of the double cycle of Chinese countries.

Also, from the consumer point of perspective, actually China's fresh groceries and daily necessity market is very big. It's big enough with diversified needs that allows multiple players. There's no potential or very little potential for monopoly in this space. Our goal is to capitalize on the growth potential of China's consumption upgrade, which is in line with the domestic development trend of dual circulation in China.

And in terms of our business model, we are a 1P consumption company, which essentially is a new type of supply chain company. And this is part of the real economy generally supported by the Chinese government. Fourth, Jindong Maicai continues to increase its investment in the agricultural sector. By using Jindong Gap and agricultural technology, it has been able to bring people into the agricultural sector. It is also the main force that is now in full swing.

Ding Dong has been continuously increasing our investment in the agriculture industry. Through our proprietary DGAP and agricultural technology, actually we have enabled the upstream agricultural industry for a long time. We are the advanced collectives in poverty alleviation, especially honored by the Shanghai government through 2018 to 2020. We are also a pioneer in the field of rural revitalization. Now, in terms of data security, we've been actively and proactively communicating with the relevant regulators to ensure our data acquisition and data usage complies with the government requirements and ensure data security for our consumers.

Sixth, in terms of flexible employment, the relevant laws and regulations for new employees must be strictly followed according to the standards. We also follow the national laws and regulations for employees. In terms of solving employment problems and training rural talent, we have also invested more and achieved very good results.

Now, in terms of flexible employment, the newly issued laws and regulations in China require that companies should pay, according to the standards, the social insurance and housing funds for their employees. We have done so, fully complying with the national laws and regulations. We have also increased investment in solving employment problems, and we have trained talents in the field of rural revitalization, and we have achieved great results.

Thank you for your concern about the free brand. I will try to answer your question from two aspects. As we said before, the price of Golden East Free Brands is higher than our current military value. Since July last year, in the second half of 2020, our free brand accounted for 1.9% of GMV. This year, the Q2 free brand's GMV ratio has increased to 4.9%. We expect that the Q4 free brand ratio will reach about 8%. In the long term, it is easier for fresh and food to form free brands compared to other brands. The future free brand ratio may reach about 30%.

In regards to your second question, thank you for your interest. I'll try my best to answer it from two aspects. The first one is, as we discussed earlier, actually the gross margin and average order value for our private label products are both higher than the average level. which I'm not going to repeat here. We actually launched our private labels back in July 2020, and our GMV derived from the private label products accounted for 1.9% of total GMV back then from July to December 2020. In the second quarter this year, the GMV contribution from our private label products increased to 4.9%, and we expect it to further increase to 8% in the fourth quarter this year. In the long run, it is actually easier to develop private label products for fresh groceries and food products compared to other categories, and we expect to achieve 30% of GMV contribution from our private label products.

From the point of view of the operating model of the free brand, we will improve the productivity of high-end and high-difficulty products, and also gain the efficiency of production processing. As for the third-party processing products, we will self-develop and quickly stack them, and during the entire production period, we will focus on the quality and various details to ensure the safety and quality of the food.

Now, in terms of the operating model for private label products, we'll try our best to self-produce those product category in-house with higher sales volumes and barrier to entry in order to improve efficiency and capture the markup of processing and production processes. For some of the products that we outsource to third-party companies for processing, we'll take responsibility in research and development and product iteration. And we'll also send our staff, our own team, to the manufacturing sites to strictly control the quality and to oversee various details to make sure that all food safety and quality leadership are prioritized. Thank you.

The next question comes from Ashley Zhu from Credit Suisse. Please go ahead.

Hello. Thanks, management, for taking my questions. There are two from me. First, I want to check about the reason of gross margin volatility and how is the outlook both in China in third quarter and in the long term, and what would be the driver of improvement? And my second question is, for the second half of the year, what strategies would we implement for both growth and efficiency optimization? Thank you.

Okay, thank you. First of all, I will answer your question about the interest rate. There are two aspects. One is the reason, and the other is the way to improve and change. First of all, there are three main reasons for the short-term interest rate fluctuation. First, we have a lot of newly opened cities in Q2. We have newly opened seven cities, and we have adopted a more affordable price and achieved good results.

Thank you for your question. I would like to address your first question regarding gross margin first. So you asked about two fronts. One is the cost of its fluctuation and also the drivers for future improvement. About the cost of fluctuation, first of all, for the short-term gross margin changes was mainly due to three reasons. The first one is our geographic expansion into seven new cities in this quarter and the adoption of more competitive pricing in the new markets to attract new customers, which we have achieved great results with.

In the second quarter, we took the initiative to use the appropriate discount strategy to shape the consumer's consumption habits across categories, so that users can purchase more categories, and increase the user's lower order assessment and GMV contribution. With long-term value, the overall user monthly lower order assessment of the second quarter rose by 10% compared to the first quarter, and the monthly lower order assessment of core green card users rose from 6.7 times in the first quarter to 7.3 times in the second quarter.

Now, the second reason is that during the second quarter, we proactively adjusted our pricing strategy to cultivate users' consumption habits, to allow them and encourage them, incentivize them to purchase cross-categories, which significantly increased our users' purchase frequency and GMV contribution, and it has resulted in long-term value for the company. Now, in second quarter, average monthly orders per transacting user increased by 10% quarter over quarter, And the members of our program actually place an average of 7.3 orders per month compared to 6.7 orders per month in the previous quarter this year.

另外在二季度上线的运营系统,我们叫迪冠系统,用于精细化管理营销费用。 在系统学习阶段,虽然优务券发放的IOI不断提升,但优务券占营收的比例仍有一定提升。 But the system is growing very fast. According to the data from July and August, we have significantly reduced the retail cost, but the growth is still strong. The three-level CNV has the same rate of growth as the two-level CNV, which is expected to reach about 100%.

In addition to that, we have launched a drip marketing system in the second quarter to refine the management of our marketing expenses. During its learning stage, although the ROI of coupon was continuously improving, the coupon as a percentage of revenue actually still increased to a certain extent. But the system, the marketing system actually is evolving day by day. We significantly reduce our marketing expenses as a result while we are able to maintain a strong growth momentum in July and August. So we expect to achieve 100% year-over-year growth in our GMV in the third quarter.

In the second half of the year, the interest rate will rise even more. In the third quarter, the interest rate will rise even more compared to the second quarter. In the fourth quarter, the interest rate will rise even more compared to the second quarter. The main reason is the following three aspects.

Now, for the second half of this year, we expect our gross margin to improve significantly. On a quarter-over-quarter basis, the gross margin will improve from the third quarter compared to the second quarter and even more in the fourth quarter of 2021. And there are mainly the following three drivers.

First of all, in addition to the traditional up-and-down up-and-down, we will use more production processing in the layout of Dingdong to improve production processing efficiency and get production processing efficiency by using advanced flowing water lines and production manufacturing technology.

Now, the first driver is essentially the gross margin derived from the markup throughout the traditional value chain. And in addition to that, actually, for Dingdong's roadmap, we will be more and more involved in the processing and production processes in the upstream, and we will utilize the advanced manufacturing equipment to improve production efficiency so that we can further enhance the gross margin.

In addition, Dingdong Gap and Dingdan Agriculture will provide stability to vegetables, fruits, and water products, and a higher yield rate for the whole year. In the past, we have long-term deployment in these two aspects. In the third and fourth seasons, especially in the fourth season, the yield rate will increase significantly. In the long term, the effect will be more obvious.

Now, the second driver is our proprietary DGAP and order-based farming, which will generate stable and higher gross margin for vegetables, fruits, and seafood products on a yearly basis. We have been paving the way for a long time, and we believe that we can see significant results and outcomes from gross margin improvement in Q3 and Q4 this year, especially in Q4, where we will expect a high growth margin improvement, and especially in the long run, which will be a great result and benefit from these initiatives.

We believe that such new products also represent the future, especially the trend of young people.

Now, the third driver is that we will continue to optimize our product mix to improve the gross margin. The revenue contribution from the 3R foods, which are the ready-to-cook, ready-to-eat, and ready-to-heat categories, increased by 5% year-over-year, and they will continue to increase in the future. Gross margin for 3R products is actually higher than our average gross margin by over 10 percentage points. And the average order value for orders including those 3R products is also 33.6% higher than average order value of total orders. We believe these newer categories, the 3R categories, actually meet the demand of future consumption, especially for the younger generation.

Based on the improvement of our interest rate and the optimization of our other efficiency, we predict that the Q3 non-GAAP loss rate will be reduced by about 4%. The non-GAAP loss rate that has not been reviewed in July compared to the Q2 non-GAAP loss rate has been reduced by 3.2%, and the Q4 non-GAAP loss rate will continue to be reduced.

So based on the above mention, we expect that the non-GAAP loss margin will narrow by approximately 4 percentage points by the third quarter. An audited non-GAAP net loss margin in July 2021 will narrow by 3.2 percentage points from that in the second quarter. We expect the non-GAAP loss margin to be further narrowed in the fourth quarter this year.

Next, I will answer your second question, which is about the strategy of the company's growth and efficiency improvement in the second half of the year. We have about three aspects. First, in terms of the commercial industry, in addition to continuing to optimize the category and better meet the consumption of young families, we are increasing the development in the field of free brands, developing more products that are as good as they are. At the same time, we will continue to invest in the commercial industry to ensure that the products have a better cost performance.

Now, in response to your second question, I would like to highlight, first of all, in terms of product capability, we'll continue to optimize our product offering to better serve the needs of young households. We are increasing our efforts to develop private label products to provide our customers with more unique and higher quality products. Meanwhile, we'll continue to invest in the upstream agriculture industry to ensure better cost performance of our products.

Secondly, we will further increase the delivery rate of users and increase the frequency of customer purchases. Although we are currently in the 36th city, there are only six full coverage areas. We will increase the coverage ratio of the city in the free city. At the same time, we will spend a lot of effort to increase the order density. The increase in commodity power and service power will improve the order frequency and GMV contribution of the free area users.

We will also further increase user penetration rate and user purchase frequency. As of today, we have entered 36 cities, but only six of them are fully covered in all urban areas. So we'll continue to increase our coverage for urban areas in the existing geographic footprints. At the same time, we'll work hard to increase our order density and improve the purchase frequency and GMV contribution by the users in the existing markets through improvement of our product and service offerings.

Third, by increasing the delivery rate and order frequency, we can improve the efficiency of the front-end order.

Also, by increasing our use of penetration and order density, we can further improve the efficiency of the frontline fulfillment team and optimize the fulfillment expense ratio of our frontline fulfillment stations. We actually have seen great results in July and August from the above-mentioned three aspects, and we believe that there will be further improvement in the future. Thank you so much. Thank you.

As there are no further questions at this time, I'd like to hand the conference back to our management for closing remarks.

Thank you again for joining our call today. If you have any further questions, please feel free to contact us or request through our IR website. We look forward to speaking with everyone in our next earnings call. Have a good day. Thank you.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.