ZKH Group Limited American Depositary Shares, each representing thirty-five (35) Class A Ordinary Shares

Ladies and gentlemen, good day and welcome to the ZKH Group Limited's first quarter 2024 earnings conference call. Today's conference is being recorded. At this time, I would like to turn the conference over to Jin Li, Head of Investor Relations. Please go ahead.

Thank you, operator, and thank you, everyone. Welcome to our call today. Joining us today on the call are Mr. Eric Chen, our founder, chairman, and CEO, and Mr. Max Lai, our CFO. During this call, we will discuss our future performance, which are forward-looking statements made under the Safe Harbor provision. Such statements are not guarantees of future performance and are subject to certain risks and uncertainties. Some of these riskers are beyond the company's control and could cause actual results to differ materially from those mentioned in today's press release. A number of potential riskers and uncertainties are included in ZKH Group's public filings with the SEC. ZKH Group does not undertake any obligation to update this forward-looking information, except as required by law. During today's call, we will also discuss certain non-GAAP financial measures for comparison purpose only. Please see the press release issued earlier today for a definition of non-GAAP financial measures and a reconciliation of GAAP to non-GAAP financial results. Eric and Max will share our business update, operating highlights, and financial performance for the first quarter of 2024. After the prepared remarks, we will have a Q&A session. With that, I will turn the call over to Eric. Eric, please go ahead.

Hello, everyone. Welcome to the first quarter of the first quarter of the first quarter of the first quarter of the first quarter of

Hello and welcome to this Q1 2024 Earnings Conference call for ZKH.

Following last year's growth trend, we had a good start in 2024. In the first quarter of 2024, we achieved a GMV of 23.5 billion RMB, which fell slightly. This is mainly due to the optimization of business quality and structure.

We got off to a flying start in 2024, extending last year's growth momentum. In the first quarter, our GMV reached 2.35 billion RMB, representing a slight year-over-year decline driven primarily by business quality and structural optimization. as well as the outsized seasonality impact of the late timing of the Chinese New Year.

In the first quarter, we have served more than 46,000 customers. The number of customers has increased by 29%. In terms of the industry, the growth trend in the industries such as new energy vehicles, chemical engineering, food chemical engineering, and industrial materials is very good. In comparison, traditional vehicles

In the first quarter, we served more than 46,000 customers, up 29% year over year. In terms of individual industries, we noticed promising growth trends in new energy vehicles, chemical engineering, food chemicals, property management, and cultural tourism industries. In contrast, industries such as traditional automobiles, mining, steel, and coal are facing some pressure. Product-wise, we are pleased to see rapid growth in adhesives, lubricants, and other chemicals, as well as in industrial-grade products, such as those used in factory automation, as well as tools and consumables, pneumatics and hydraulics, and power transmission products.

The overall net profit rate has increased from 17.1% in the same period last year to 18% in this year's first quarter. In particular, the 1P net profit rate and the 3P net profit rate of the platform model have increased significantly from 14.7% in the same period last year to 16% in this year's first quarter. Our gross margin continued to improve in the first quarter, increasing to 18% from 17.1% in the same period last year. Specifically, for the VKH platform,

We achieved a substantial increase in the gross margin of our product sales model, 1P, which grew to 16% from 14.7% in the prior year period. We also witnessed significant growth in the take rate of our marketplace model, 3P, which increased to 11.6% from 11.1% in the prior year period.

Due to the improvement of business quality, cost control and efficiency improvement, etc., our profit capacity continues to increase. In the first quarter of this year, we adjusted the net loss to 4,300 million RMB, which is 87 million RMB in the first quarter of 2023, which is about 4,400 million RMB. The loss rate dropped from 4.5% in the first quarter of 2023 to 2.3% in the first quarter of this year.

The combination of improved business quality, cost control, and increased efficiencies propelled continuous improvement in profitability. Our adjusted net loss narrowed to 43 million RMB in the first quarter of 2024. which is an improvement of approximately 44 million RMB from the 87 million RMB in the prior year period. Our loss margin improved from negative 4.5% in the first quarter of 2023 to negative 2.3% in the first quarter of this year.

The 2B industry is in the second half of the year, but the annual revenue is about 18% to 20%. And in a relatively stable situation, our net profit in the first quarter of this year achieved a 50% improvement. This is a very good basis for us to achieve annual profits this year.

The first quarter of each year is a slow season in B2B industries, accounting for approximately 18 to 20% of full-year revenues. On top of maintaining relatively stable staffing, we were able to achieve a 50% year-on-year improvement in our bottom line in the first quarter of this year, laying the foundation for full-year profitability.

Let's take a closer look at our business progress throughout the first quarter.

our primary focus remained on strengthening our core competitiveness. By consistently investing in operations, products, and digitalization, while further accelerating global expansion, we meaningfully enhanced services for our corporate customers.

In terms of contractual capacity, our first smart automated warehouse was built in March 2020. in Shanghai Qingpu. In the automated warehouse, it is expected to improve 30% of the efficiency and 100% of the use rate of storage and reduce the use of 70% of traditional parking equipment. This Li Chengbei-style automated warehouse will be launched smoothly, which also means that we will officially enter the automated and artificial organic combination in Liyue.

Furthermore, we effectively leveled up our fulfillment capabilities. In March 2024, we put into operation our first smart and automated warehousing facility for product line of fasteners in Qingpu, Shanghai. This automated warehouse is expected to increase labor productivity by 30% and storage utilization by 100% for this fastener product line, while reducing the number of traditional forklifts needed by 70%. The successful launch of this flagship automated warehouse marks the beginning of our transition into a new phase of integrated fulfillment. where the synergy of automation and human expertise enables us to pinpoint the optimal automation solutions for diverse MRO product categories.

In terms of digitalization, while continuing to advance the development of full-chain digitalization capabilities, we strengthen digital marketing and improve online acquisition capabilities. Through smart clues and division, smart outsourcing and other technical methods, On the digital front, in addition to continuing to build end-to-end digital capabilities, we have bolstered our digital marketing initiatives and online customer acquisition capabilities.

We also have enhanced the efficiency of online lead acquisition and conversion by leveraging technologies such as intelligent lead analysis and smart outbound calling. In the first quarter, our online customer acquisitions achieved a record quarterly high, up 103% year on year.

In terms of overseas business, we are accelerating the localization of the U.S. team building, storage and selection, as well as the online version of the U.S. independent website. We hope to develop overseas business with a digitalized innovation model and a common business spirit. In terms of products, we make selected products and large packages in order to simplify the supply chain, reduce the cost of travel risks, and improve profitability. To give a more abstract analogy,

Regarding our globalization efforts, we have fast tracked the formation of our local U.S. team, the selection of warehouse sites, and the launch of an independent U.S. website. We aim to advance our overseas business through a model of digital innovation and a spirit of joint entrepreneurship. On the product front, we'll focus on curated high-value offerings with large packages with the goal of simplifying the supply chain, reducing costs and risks in fulfillment, and improving profitability as we aspire to become a Costco for the MRO industry.

We have selected 5,000 SQs in terms of personal protection, security, tools, logistics, equipment, etc. As of now, hundreds of suppliers have joined us. We hope that the services provided by our suppliers can become channels for Chinese industrial products to go out to sea.

We have also curated 5,000 SKUs for our initial global launch, focusing on product lines such as personal protective equipment, security-related products, tools, material handling, and adhesives. On the supplier side, more than 100 suppliers have joined our international operations. We hope that the services we provide to our suppliers can serve as a gateway for MRO products from China to enter international markets.

We hope that the services we provide to our suppliers can serve as a gateway for MRO products from China to enter international markets. together with Chinese companies. Therefore, in order to develop better in the long term, we will make some short-term adjustments and optimizations. Although it may have some impact on revenue growth in the short term, after the adjustment and optimization are completed, we will focus more on core competitiveness construction, including investment in digitalization and intelligentization, as well as the improvement of product competitiveness and operating efficiency. This series of measures will be more conducive

Looking ahead, we believe that China's MRO market still holds tremendous potential despite a challenging external environment. This is because China is the world's largest manufacturing market and the business community has long-term demand for efficient and cost-effective online procurement. Moreover, Chinese companies going global present yet another opportunity. To enhance our long-term growth prospects, we have made certain short-term adjustments and optimizations. Although there may be some temporary impact on sales growth, after implementing these modifications, we will redouble our focus on increasing core competitiveness by investing in digital and smart technologies as well as improving our product capabilities and operational efficiency. These initiatives will be more conducive to a healthy and long-term growth. With that, I'll now turn the call over to our CFO, Max Lai, to discuss our financial performance. Thank you, everyone.

Thank you, Eric, and thanks, everyone, for making time to join our earnings call today. I will now provide an overview of our 2020 first quarter financial results. In the first quarter of 2024, our GMV decreased by 1% year-over-year to RMB 2.3 billion from RMB 2.4 billion a year ago. GMV generated from ETH platform decreased by 3.2% year-over-year to RMB 2.1 billion. And GMV generated from GBP platform grew 28.6% year-over-year to RMB 211 million. By business model, GMV of product sales model reduced, reached RMB 1.8 billion, decreased of 3.5% year-over-year. while GMV from marketplace model was about RMB 572.9 million, up 7.3% year-over-year. The proportion of GMV generated from marketplace model was about 24.4% in the first quarter of 2024, compared with 2022.5% in the prior year period. Our total net revenues in the first quarter of 2024 was about RMB 1.86 billion, representing a decrease of 4% from RMB 1.94 billion in the prior year period, mainly due to our focus on high-quality revenues and lower seasonal demand as a result of the late timing of Chinese New Year, which fell in the middle of February in 2024. Looking at the breakdown of our total revenues, Net product revenues in the first quarter of 2024 were RMB 1.78 billion, decrease of 4.9% from RMB 1.87 billion in the prior year before. The decrease was mainly due to lower net product revenues generated from the ESAC-H platform, partially offset by higher net product revenues from the GBP platform. Net surface revenues in the first quarter of 2024 amounted to RMB 66.7 million, an increase of 12.8% from RMB 59.1 million in the prior year period, primarily attributable to the growth of marketplace model on the EtherGate platform. Other revenues in the first quarter of 2024 were RMB 18.7 million, an increase of 48.2%. 3.8% from RMB $13 million in the prior year period, mainly attributable to higher revenues generated from our testing and repairment services and warehousing and logistics services. Gross profit in the first quarter of 2024 grew 1% year-over-year to RMB $334.1 million, resulting in gross profit margin of 18%. compared with 17.1% in the prior year period. The increase was driven by higher gross margin of product sales model and higher take rate of marketplace model on the ESAC-H platform, as well as the growth of the marketplace model on ESAC-H platform, and partially offset by lower gross margin of product sales on the GBB platform. Operating expenses in the first quarter of 2024 were RMB 463.7 million, a decrease of 3 percent from RMB 478.2 million in the prior year period. Operating expenses as percentage of net revenues were about 24.9 percent, compared with 24.7 percent in the prior year period, mainly due to the increase in share-based compensation expenses. Fulfillment expenses in the first quarter of 2024 were RMB 97.3 million, a decrease of 12.2% from RMB 110.9 million in the prior year period. The decrease was primarily attributable to lower distribution expenses and employee benefit costs. Fulfillment expenses as percentage of net revenues were about 5.2% compared to 5.7% in the prior year period. Sales and marketing expenses in the first quarter of 2024 were about RMB 164.1 million, a decrease of 8.8% from RMB 179.9 million in the prior year period. The decrease was primarily attributable to the decrease in the employee benefits cost and travel expenses. Sales and marketing expenses as percentage of net revenues were 8.8%, compared with 9.3% in the prior year period. Research and development expenses in the first quarter of 2024 were RMB 39.8 million, a decrease of 16.6% from RMB 47.7 million in the prior year period. The decrease was primarily attributable to lower employee benefit costs. Research and development expenses as percentage of net revenues were 2.1% compared with 2.5% in the prior year period. General and administrative expenses in the first quarter of 2024 were RMB 162.4 million, an increase of 16.3%. from RMB 139.7 million in the prior year period. The increase was primarily attributable to the increase in share-based compensation expenses and partially offset by decrease in other employee benefits costs. General and administrative expenses as percentage of net revenues were 8.7% compared with 7.2% in the prior year period. Loss from operations in the first quarter of 2024 was RMB 129.6 million compared with RMB 147.4 million in the prior year period. Non-GAAP adjusted net loss in the first quarter of 2024 was RMB 43.5 million compared with RMB 66.9 million in the prior year period. Non-GAAP adjusted net loss margin was 2.3% in the first quarter of 2024, compared with 4.5% in the prior year period. As of March 31st, 2024, we had cash and cash recruitment, restricted cash, and short-term investments of RMB 2.03 billion compared with RMB 2.12 billion as of December 31st, 2023. Net cash used in operating activities was about RMB 224.3 million in the first quarter of 2024, compared with RMB 263.4 million in the prior year period. Now, I would like to open the call to Q&A. Operators, please go ahead.

We will now begin the question and answer session. To ask a question, you may press star then one on your touch-tone phone. If you were using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star then two. For the benefit of all participants on today's call, if you wish to ask your question to management in Chinese, please immediately repeat your question in English. At this time, we will pause momentarily to assemble our roster. Our first question comes from Leo Chang with Deutsche Bank. Please go ahead.

Thank you for accepting my question. I have two questions. The first question is, can you please update us on the second quarter of the Chinese MRO purchasing market and the outlook for the second half of the year? The second question is, Mr. Chen just mentioned that our GMV has stopped at 1Q year-on-year, because our I can say myself So thank you, Magman, for taking my question. My first question is, could Magman update on the China's MRO procurement service market outlook in 2Q second quarter 2024 and the second half 2024? My second question is, Chen Zhong mentioned that GMB flattened to 1Q due to more focus on high-quality revenue and lower seasonality. could management please elaborate high quality growth and how this would affect our GMV growth in the following quarters, and also the GMV recovery and new client sign-up trends in recent months post-2013 year? Thank you. Okay.

The first question, in general, China's manufacturing industry has been relatively stable in the past two years. Some industries will grow faster. Some industries may be under greater pressure, including some traditional vehicles, construction-related water and steel, and so on. In general, I think the size of ML is closely related to the size of manufacturing. So from this perspective, the overall demand for MR is relatively stable. However, for some new MR suppliers, such as those that are able to supply all over the country, including those that are able to supply overseas, we think the growth trend of such e-commerce-type enterprises is very good. The reason is that in such a pure market, more and more customers hope to use the online method in order to solve the problem of the purchase. I think this trend is very obvious. So if we focus on the e-commerce industry, the trend should continue to be good. Here we can see from the increase in the number of customers in the first quarter, including the improvement of interest rates, etc., This is about the urgency of the industry. I think it's still a good idea to continue to look at the MR e-commerce industry. Regarding the second question, this year's Spring Festival, the Spring Festival of 2020 will be a little later in February. If it is a little later in the Spring Festival, it will have some influence on March. So this year's Spring Festival is relatively more influential than last year. The other one is the trend of the overall manufacturing industry, which will slow down the spring festival and the winter festival. This is one aspect, so we have an impact on the spring festival. The other one is that we have been doing some adjustment and optimization of the structure of life in recent years, including this year, especially some life that is low in horsepower. Because the order volume of our MR industry is very large. Some small orders, if analyzed using the cost of work, may not make money. We hope to gradually optimize such businesses. Either cut it down or optimize it to make money. In the process of this entrepreneurship, there will be some such unprofitable businesses added to it. We hope to gradually optimize it. Of course, there are also some risks of receivables. Because if there is a problem in some industries, we are worried about the risk of revenue or the risk of regulation. We will also remove them. Another one is that we used to do a lot of temporary stock price business. This kind of business is of no help to our long-term competitiveness. We also continue to optimize them. So why do you see that our profit and loss ability is improving? It has something to do with our approach. We can see further that after April, the situation has improved. In fact, we can see that the growth in April is 17% compared to the same period last year, and it is gradually recovering, including the increase in the number of customers. In April alone, we served 320,000 customers, of which more than 3,800 new increases. It only increased by 1,900 in April last year, so our number of customers is also increasing. It is also verifying that the impact during the Spring Festival that we mentioned earlier is slightly larger. In April, it gradually began to recover. Of course, we are optimizing our business structure and it is still going on. But the impact at this time will be better and better in the following few seasons. So from the perspective of the whole year, we are confident that we will maintain more than 20% growth. Thank you very much for your question.

So for your first question, manufacturing, the manufacturing sector in recent years in China has been pretty stable. Of course, you know, it's a bifurcated situation. For some sectors, they have been growing faster and others are more distressed. I'm talking about sectors like automobile, construction, cement, steel. But in terms of the MRO scale, the scale of the MRO industry is very closely correlated with that of the manufacturing sector. So I believe the total demand for MRO is halving and will continue to be stable. If you look at the new MRO suppliers, so in terms of the e-commerce business model of being able to supply nationally, both in China and overseas, things are going very good. Because in this existing market, more and more businesses have this need to move their purchases from offline to online and make the purchase and procurement process more transparent. So that is a trend that is evolving and ongoing and the need to optimize costs on the part of companies in general hasn't changed. So in terms of MRO in the e-commerce model, things are going very well, and I'm very bullish on that. So if you look at our Q1 performance in terms of the number of our customers, it has increased and the growth margin also improved. So these things went to show my point about the trend being very, very positive. To answer the second question, So firstly, Chinese New Year 2024 happened in February, which by historical standards was pretty late. So the impact was more obvious in March. So it was eating into the growth in March and the impact of the CNY this year was indeed bigger than last year. So because of the manufacturing trends, factories were more slow going in terms of restarting their operations post-CNY. And we have been gradually optimizing the structure of our business and focusing on more high quality business like I mentioned in my presentation. And for some Because with MRO, a lot of times the order volume is huge. And if you use activity-based costing for some orders for some business, it's not really making money for us. And sometimes it's even loss-making. So for those types of business, as well as business that has long receivable risks and regulatory risks, and business that is generally not helping with our bottom line. We have been eliminating this kind of business left and right to optimize and improve our bottom line. Going into April, are things going better? I think that the answer is positive. We have seen 17% yearly growth this April, and in terms of the number of customers served, It was 32,000, so 3,800 of them were new customers. And the number last year was 1,900 new customers. So the pace at which we're growing the number of our customers has been picking up. And we have been doing this optimization. So in terms of its impact to our GMB and top line customers, it will be less and less in suing quarters. And I believe our growth for the entire year this year will be still over 20%. Thank you.

Our next question comes from LNG with China Renaissance. Please go ahead.

Thank you for accepting my question. My question is with The company's profit and long-term take rate are related. We also see that the company's profit and long-term 3P take rate have achieved good growth year-on-year in this quarter. What is the outlook for the profit and profit in the next few quarters? And what is the outlook for the take rate in the future? So my question is regarding the outlook for the margin, as well as the 3P marketplace take rate outlook for the subsequent quarters. Thank you very much.

All right. I think with the increase in our product competitiveness, especially with the decrease in cost, I think it's appropriate to increase the interest rate is still very important to us. However, in the current stage of development, our strategy is still to increase the scale, or to prioritize the increase in net profit. Our cost gradually brings advantages, which is the cost advantage. We do not need to quickly improve in terms of net profit improvement. Based on this kind of thinking, We are planning to have a certain increase in the interest rate this year The interest rate from the 23-year income-saving interest rate to 16.7% in 23 years Our plan is to increase by 1.5% to 2 points Increase to 18% or more than 18% We think this is a relatively ideal state of improvement gradually What about that The net profit of the first batch of the stock market platform increased from 14.2% in 2023 to 16% in 1.5 points. The net profit of the third batch of the stock market platform increased from 12.2% in 2023 to 12%. The net profit of the public stock market continues to remain at 6% to 7%. Let's translate the third question first.

Sorry, can you confirm if the Zengfeng Hang 3P is 12.2, up to 13 or 12, down to 12? Down to 12, okay, thank you. Sorry, the Zengfeng Hang 3P's commission rate increased from 11.2 last year to 12% in 2014.

I understand, thank you.

So as our product competitiveness keeps improving and as our cost keeps going down, it is really necessary and important to improve our growth margin to some extent. However, at this point, the growth of our scale is still prioritized over the growth of our margins. So that is to say, we don't have to hastily reflect our cost advantage in the growth margin. So in terms of the growth margin improvement this year, in 2023, it was 16.7%, and this year it will improve by 1.5 to 2 percentage points to 18%, so a very gradual and healthy improvement. And in terms of our ZKH platform, 1P business, 2023 growth margin was 14.2%, and it was raised to 16% So 1.5 percentage points. And in terms of VKH3P business, take rate will grow from 11.2% in 23 to 12% in 24. And hold on one second. So GBV take rate will grow from 6 to 7% for GBV.

The fourth question is about 3P business. In our understanding, we will not be too persistent in increasing the commission rate of 3P business. We think it is more reasonable at 11 to 12 points. Because we think 3P business increases our platform-based ability to serve more partners. This scale of growth is more important to us. So we are For our 3P business, we won't be too fixated on improving our take rate by too much. So because we care more about serving more partners and growing our scale,

So 3P will grow a little bit to 23 to 25% of total GMV intake rate will improve from 11% to 12%.

Our next question comes from Brenda Zhao with CICC. Please go ahead.

Good evening. My question is about our strategic directions. Mr. Chen mentioned that the shelf label products and the overseas expansions are two important directions for the company. Could management give updates on these two aspects? Thank you.

This brand is a very important method for our MR industry to reduce costs and improve product competitiveness. Our goal for this year is that in 2023, the number of free brands will be 5.4 billion RMB. This year, we hope to turn it around and increase it to 10 billion RMB. In terms of the development of free brand, we have further improved the requirements for product quality this year. We hope that the quality is better, and the cost is more competitive. At the same time, we want our free-brand products to be certified by the standards of overseas products, such as the American market, the European market, and so on. In other words, in the future, in the overseas market, we hope that half of our products will be our free-brand products. This way, not only will our product competitiveness be better,

Private label is an important way for MRO players to increase their GM and also to lower cost and improve product capability and competitiveness. In 2023, we achieved 540 million RMB of revenue from private label products. This year, our goal is to double that and reach 1 billion RMB in revenue from private label products. And in terms of R&D, we are focusing more this year on improving the quality of our private label products and further improve cost competitiveness. We are also pursuing actively certification of our products in the U.S. and Europe for our overseas market, which we aim to have half of the revenue from private label products. That will further strengthen our competitiveness as well as help to improve our GM.

And that concludes the question and answer session. I would like to turn the conference back over to management for any closing, any additional or closing comments.

Thank you once again for joining us today. You can find the webcast of today's call on ir.dkh.com. If you have any further questions, please feel free to contact us. Our contact information can be found in today's press release. Thank you and have a great day.

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