RLX Technology Inc.

Ladies and gentlemen, thank you for standing by for RLX Technology, Inc.' 's fourth quarter and full year 2023 earnings conference call. At this time, all participants are in listen-only mode. After management's remarks, there will be a question and answer session. Today's conference call is being recorded and is expected to last for about 40 minutes. I will now turn the call over to your host, Mr. Sam Song. head of capital markets for the company. Please go ahead, Sam.

Thank you very much. Hello, everyone, and welcome to RIA Technology Incorporation's first quarter and full year 2023 earnings conference call. The company's financial and operational results were released through PL Newswire earlier today and have been made available online. You can also view the earnings press release by visiting the IR section of our website at ir.realtest.com. Participants on today's call will include our CFO, Mr. Chao Lu, and myself. Before we continue, please note that today's discussion still contains forward-looking statements made under the safe harbor provisions of the U.S. Private Security Statistication Reform Act of 1995. These statements typically contain words such as may, will, expect, targets, estimates, intent, belief, potential, continuing, or other similar expressions. Forward-looking statements involve inherent risks and uncertainties. The accuracy of these statements may be impacted by a number of sequence risks and uncertainties that could cause actual results to differ materially from those projected or anticipated. Many of these factors are beyond our control. The company's affiliates, advisors, and representatives do not undertake any application to update this forwarding information, except as required under the ethical rule. Please note that RLS Technologies' earnings press release and this conference call include discussions of unaudited gap financial measures, as well as unaudited non-gap financial measures. Press release contains a reconciliation of the unaudited non-debt measures to the unaudited debt measures. I will now turn the call open to our CFO, Mr. Chao Lu. Please go ahead. Thank you, Sam, and thanks, everyone, for making time to join our earnings conference call today. 2023 was a transformative year for ILX. Despite external challenges, our outstanding product portfolio and strong strategic execution propelled an impressive recovery throughout the year, setting the stage for new ventures. I will begin with an update on our domestic operations before devolving into our international endeavors, followed by a review of our financial performance. For our domestic business, 2023 was the first full year under the eVapor industry's new regulatory framework in mainland China. The regulations necessitate prior approvals for eVapor products restrict flavor to tobacco only, and impose a 36% exercise tax on sales to distributors. As a compliant player, we have strictly adhered to the new rules since day one, continuously innovating to offer premium, compliant products amid competition from unauthorized flavored products. Leveraging our strong R&D capabilities and deep industry insights, we more than doubled our selection of approved cartridges this year, from 15 in January to 32 by December. Additionally, we broadened our cartridge series to four compared with three one year ago. enhancing our offerings to meet the diverse needs of adult smokers with more value-driven options. With a growing product portfolio, we believe we are well positioned to seize opportunities in China's legal e-vapor market, especially once enforcement against elusive products becomes more effective. While we have made meaningful progress in 2023, the adverse impact of illegal products is still lingering. Given the broad availability of popular flavors through unauthorized products, their sales still account for a significant portion of domestic sales, sales volumes, weighing heavily on compliant product sales. Unauthorized products are are also often cheaper than compliant products, as their manufacturers typically do not pay excise tax and duties. More importantly, they are manufactured without oversight and marketed irresponsibly, resulting in quality control issues that could potentially harm users. This damages the reputation of the entire evapour industry. Evapor products are meant to reduce harm, not cause or increase it. As our industry offers one of the few smoking harm reduction options available, effective regulation enforcement is critical in ensuring users' safety and essential to the evapor industry's development. We will continue actively working with regulatory authorities advocating for a responsible and well-regulated evapour industry. Meanwhile, we will remain focused on what we can control, that is meeting users' harm reduction needs with a diverse and growing portfolio of high-quality compliance products. That leads me to our overseas business. We believe that adult smokers seeking Smokeless alternative is a global trend. As such, we terminated our non-compete agreement with Relax Inc. in November 2023, enabling our company to explore prospects outside China, where the demand for evapour as a convenient and healthier smoking alternative is growing. With mounting evidence from reputable sources like the UK's National Health Service highlighting vapors lower health risks compared to traditional smoking, more countries are recognizing e-vapor's role in tobacco harm reduction. According to NHS, burning cigarettes releases thousands of different chemicals, of which many are poisonous, and carcinogenic. Most harmful chemicals, including tar and carbon monoxide, are not contained in vape aerosol. Switching completely from smoking to vaping significantly reduces exposure to toxins associated with risk of cancer, lung disease, heart disease, and stroke. RLX, without track record of regulatory compliance, and product excellence is ideally positioned to leverage these global shifts. That's another reason we believe it's the right time for us to expand outside China. Strategically, our first step is to increase our product accessibility in international markets. We are working with partners around the globe to bring our harm reduction products to more users worldwide responsibly. Increased access to our quality products will build brand recognition among global adult smokers, driving progress in our expansion efforts. Second, leveraging our extensive industry resources and expertise, we will target key markets and product categories with high growth potential. This, in turn, will boost profitability as margins will expand with scale. Our recent expansion into Southeast and North Asia has shown promising progress, validating our approach of combining our industry expertise with local insights to refine our market strategies. As we do for our domestic business, we will respond quickly to changing consumer preferences, tailor our product portfolio to fit local needs, and help local teams improve operating efficiency. Going forward, we will continue to expand our business across new markets based on careful evaluation while developing innovative premium products to meet global users' evolving needs. Before I move on to our financial performance, I'm pleased to share that our ESG efforts continue to win recognition from leading global ESG rating agencies. We received an NA rating from MSCI for the second consecutive year for our outstanding performance in responsible marketing, commercial ethics, and product security. In addition, our companies score in the 2023 S&P Global Corporate Sustainability Assessment improved by 13%. Our commitment to integrating ESG best practices remains unwavering, reflecting our dedication to social responsibility and value creation for all stakeholders. an overview of our operational and financial results for the fourth quarter and full year of 2023. Please note that unless otherwise stated, all the financials we present today are in RMB terms. In 2023, we strategically adjusted our business model to align with China's new regulatory requirements, focusing on efficiency and profitability. These adjustments have resulted in steady financial improvements throughout the year. First on top line, on a full year basis, our net revenues were $15.9 billion, a significant year-over-year decrease as 2023 was the first full year of the new regulatory era. Our domestic businesses' recovery pace were uneven. We released the product research quickly after the regulator's special action ended in April 2023, impacting our sales. We quickly adjusted our strategy on operations in response to the changing market dynamics and further diversified our product portfolio to meet more adult smokers' needs. For example, we launched Lely, a line of cost-effective products to target price-sensitive users. I'm pleased to report that these efforts paid off. The year-over-year decline in our quarterly net revenues narrowed from 89% for the first quarter to 83% in the second quarter to just 52% for the third quarter. For the fourth quarter of 2023, our net revenues were up 63.1% year-over-year to $520 million, marking our first quarter of positive year-over-year growth at seven consecutive quarters of decline. The increase was mainly driven by our international expansion, which began with Southeast and North Asia. Such encouraging results in a short-time framework validate our decision to diversify our revenues geographically. As I mentioned earlier, we believe adult smokers seeking smokeless alternatives is a long-term global trend. With our deep industry know-how and outstanding leadership team, we are confident that RLS will quickly win the trust and loyalty of adult smokers worldwide. Next, our growth profit margin. Our four-year growth margin fell 18.8% points to 24.4%, primarily due to the 36% excise tax implemented in mainland China in November 2022. However, thanks to our efforts to optimize supply chain efficiency, improve product design, and increased utilization of our exclusive manufacturing plant, gross profit margins for our core domestic business improved quarter-over-quarter throughout the year. Our four-quarter gross margin remained stable quarter-over-quarter at 23.7% as an unfavorable change in the revenue mix offset the margin improvements we achieved for our domestic business. In 2023, we recorded an operating loss of 497 million. Excluding the impact of stock-based compensation, our non-GAAP operating loss was 134 million. Since the introduction of the new regulatory framework, we have been actively adjusting and streamlining our business for greater agility. various foods, with stringent cost control driving a 49% decrease in full-year total salaries and welfare benefits, and a 48% decrease in non-salaries and welfare benefits year over year. For the fourth quarter, we recorded our 76 million after three consecutive quarters of operating loss. Thanks to our cost reduction initiatives and positive profit contribution from outside China. This significant turnaround from operating loss of 133 million in the first quarter to an operating profit of 76 million in this quarter reflects our robust rebound and growth trajectory. Moving forward, we will remain focused on optimizing operating efficiency and profitability as we pursue high-quality growth domestically and abroad. Our balance sheet remains solid. As of December 31, 2023, the company has cash and cash equivalents, restricted cash, short-term bank deposits net, short-term investments, long-term bank deposits net. and long-term investment securities net of $15 billion. Also, we recorded an operating cash inflow of $305 million in the fourth quarter of 2023, primarily due to improved working capital and inventory management. Supported by our financial strength and solid balance sheet, we extended our commitment to enhancing shareholder returns In 2023, we returned value to our shareholders through a total of approximately US dollar 112 million in share repurchases and cash dividends, comprising US dollar 98.5 million from our share repurchase program and US dollar 15 million from cash dividend payouts. As of December 31st, 2023, the company had repurchased about $195.5 million of its ordinary shares represented by ADSs. Our Board of Directors has authorized the extension of its existing share repurchase program established in December 2021 for an additional 24-month period through December 31, 2025. The extended program demonstrates our confidence in the company's long-term prospects. In conclusion, we are proud of our pivotal progress during the past year's challenges. Thanks to our excellent execution and effective strategies, as well as our team's dedication and our partners' deep trust and support, our business remains resilient and strong. Our commitment to meeting adult smokers' needs with premium harm reduction products and advocating for a responsible and well-regulated evapour industry will never waver. Heading into 2024, we will continue to propel recovery in our domestic business through product innovation while tapping into new markets abroad to unleash growth potential. We believe our strong financial foundation and solid balance sheet will empower us to seize development opportunities that create value for all of our stakeholders. This concludes our prepared remarks today. We will now open the call to questions. Operator, please go ahead.

We will now begin the question and answer session. To ask a question, you may press star then one on your telephone keypad. If you are using a speakerphone, please pick up your handset before pressing the keys. If at any time your question has been addressed and you would like to withdraw your question, please press star then 2. At this time, we will pause momentarily to assemble our roster. The first question comes from Peiheng Lu with CICC. Please go ahead.