Good evening and good morning. Welcome to Tencent Music Entertainment Group’s Fourth Quarter and Full Year 2022 Earnings Webinar. TME announced quarterly financial results today after market close and earnings release is now available on our IR website at ir.tencentmusic.com as well as via Newswire Services. Today, you will hear from Mr.
Cussion Pang, our Executive Chairman, who will start the call with an overview of our recent updates. Next, Mr. Ross Liang, our CEO; and I, Tony Yip, CSO, will offer additional thoughts on our product strategies, operations and business developments. Finally, Ms.
Shirley Hu, our CFO, will address our financial results before we open the call for questions. Before we continue, I refer you to our Safe Harbor statement in our earnings press release, which applies to this call as we will make forward-looking statements.
Please also note that the company will discuss non-IFRS measures today, which are more thoroughly explained and reconciled to the most comparable measures reported under IFRS in the company’s earnings release and filings with the SEC. [Operator Instructions] And please be advised that today’s webinar is being recorded.
With that, I am pleased to turn the call over to Cussion, Executive Chairman of TME.
Cussion?.
Thank you, Tony. Hello, everyone and thank you for joining our call today. Looking back on 2022, firm execution of our dual engine content and platform strategy build a solid progress in a fast-changing macro environment.
With a keen focus on high-quality growth and product innovation as well as our highly effective cost optimization measures, we led the industry in the rebound of bottom line growth and delivered steady growth in online music subscriptions throughout the year.
Our diversified suite of monetization tools expanded and made progress during the year such as ad-supported mode, long-form audio, as well as audio live streaming and our international expansion, among many more.
With our confidence in the long-term prospects of the company, we had completed the $1 billion share buyback program approved by the Board in 2021.
Looking ahead into 2023, as we are repositioning ourselves to better capture future growth areas, we currently expect our quarterly revenues from online music services will exceed those from social entertainment services at some point within this year.
Meanwhile, with our relentless focus on executing our growth strategies and operating efficiencies, we are confident to achieve year-over-year growth in total revenues and profitability as well as continuous improvement in user quality in 2023 while fueling the thriving music industry Next, I would like to talk about remarkable achievements we have made in many aspects of our businesses build a point our insistence on excellence and innovation.
One integral part of our strategy in 2022 was to continue improving TME’s content ecosystem. First, we are building extensive collaboration with top artists, labels and industry partners, both at home and abroad to bring our users and artists’ most compelling content and experiences.
We have recently reached an agreement with JVR to extend our close strategic partnership and will continue to provide our users with the high-quality music created by JVR, accentuated by the extraordinary experience on our platform.
In the fourth quarter, we deepened our strategic cooperation with leading records such as B'in Music [indiscernible], providing users with songs from Mayday, [indiscernible] and other renowned singers. Our content library in various music verticals also reinforced our reputation as a go-to destination for music lovers.
Importantly, we began extensively teaming up with Billboard, the industry bellwether. In addition to co-produce the playlists, we jointly released the 2022 Annual Music Report, which attracted participation from a record high number of unique visitors.
Most recently, we announced the integration of TME Uni Chart [indiscernible] on Billboard as its only music chart for Mainland China, introducing Chinese music to a global audience.
Second, as its growth increased the breadth and depth diversity of our music library, our ability to empower original content production has significantly improved with new tools launched. We have been investing in intelligent tools to support music-related content production with technology and has delivered promising results.
With virtualization setting the trend, one strategic move in 2022 was to build a lineup of virtual performance. In the fourth quarter, we unveiled our first hyper-real virtual pop idol, Lucy with Xiaoqin, who is also the whole new presenters for today’s call.
With a record-grade, automatically generated vocal print developed by TME LYRA LAB’s LyraSinger Engine, [Foreign Language] Lucy as a highly productive segment has created three chart dominating original songs across different styles within just one month of a debut and has already received the partnership interest for fashion shops or joint performances from a board array of global brands, including Elk, Coca-Cola and KFC.
At the forefront for cutting-edge virtual idol field, our virtual performance also includes Xiaoqin, Shanbao and Anko, who we brought to life with original content, unique voices, dance moves and more. Musicians are also increasingly focusing on our Tencent Music platform, driving content prosperity both on our platform and in the industry.
By the end of fourth quarter, we have empowered our indie musicians to create more than 2.3 million musical works. Meanwhile, we consistently pay close attention to music ecosystem development.
In the fourth quarter, we launched more smart features and tools for indie musicians to accelerate song composition and release and forced per interactions with their fans.
For example, in December, we unveiled a record release feature, [Foreign Language], which allows indie musicians to upload their original albums and earn revenue from listeners who want to show extra gratitudes in addition to album sales.
First of all, the tech tools we launched during the quarter enabled our musicians to generate RX and album covers as well as assist in singing enhancement and song valuation, of which help from modularized and automated music production deposits.
We are proud that our end-to-end services have been instrumental in realizing a year of harvest for the creation of close to 1,000 original blockbusters, leading the streams exceeding 100 million each in 2022.
In the fourth quarter, the [Foreign Language] dominated trending list on our platform and took the market by storm, ranking in nearly 0.5 billion streams. Analysis was turning to fireworks and four for you, [Foreign Language], which has been extensively used as background music and generated over 5 billion social media discussions.
Meanwhile, we deepened our collaboration with the Tencent ecosystem and launched a total of 111 songs in the gaming and animation category in 2022. A number of our co-produced songs have garnered awards this year.
Notably, Fairytale Love made for Peacekeeper Elite [Foreign Language] was among the finalists for the Best Original Song in the Mobile Video Game Category of the 13th Hollywood Music in Media Awards.
[Foreign Language] Third, behind this high-quality musical work, more up and coming artists are founding opportunities and stages to shine and realize their music dreams on the back of TME’s all around promotional resources. One example in the fourth quarter was a strategic musician partner we cultivated, Krystal Chen [Foreign Language].
We invited well-known producers to launch her first EP from which the song Skylight [Foreign Language], topped QQ Music’s Best New Release music chart, helping her build her profile as a high-quality singer.
Another standout final was the campus musicians [Foreign Language] was featured on the cover of Billboard’s December issue with her first single, [Foreign language] and also came in the third place in 2022 SING! China [Foreign language] with our project.
In addition, we collaborated with Coca-Cola to create a large scale new music event and promote emerging musicians such as Pan Yunqi to the world stage through Billboard’s global network.
Many newly joined musicians have grown quickly into rising stars with our support, representing just a few of our success stories among a strong pipeline of emerging talents we are grooming to build driving music industry. That concludes my review of our growing content strategy.
Now I would like to turn the call over to Ross who will share more about our platform updates. Ross, please go ahead..
listen, watch, sing and play. We have been deploying and developing breakthrough AIGC tools to further import music-related content creation and enhanced production efficiency.
In addition to the LyraSinger engine, which we used to develop our virtual idols such as Cussion mentioned, we rolled out the Muse Engine in the fourth quarter, which enables automatic large-scale music posters production based on melody and lyrics.
We have also expanded use cases for our patented technology, Lingyin Engine to launch several popular audio books read by the synthetic voice of [indiscernible], including the [indiscernible].
What’s more, ahead of the new year, receivers of QQ Music’s newly launched VR greeting card can walk into the gift generated automatically and receive blessings as avatars in an exquisite virtual space.
In the future, we will continue to explore the application of large language models in the field of pictures, texts, video and other content as well as music recommendation and search to meet the massive demand for music-related content.
Next, one of the biggest advancements in the year was to holistically improve our sound quality and sound effects and the premium users are clearing and more vivid listening experience, which also contributes to the growth of music subscription as well as we are adding this companion privilege to our memberships.
For example, nearly half of our QQ Music, music tracks now support super quality or above and our high-rise standard has also been upgraded to high-rise [Foreign Language], which paralyzed the top studio quality for mass resolution of 192 kilohertz 24 bit.
Second, we continue to optimize our proprietary technology for the Premium Sound series, launching premium master type [Foreign Language], premium strong song [Foreign Language] and the premium sound quality [Foreign Language] to enhance sound clarify and express their [indiscernible].
We also extended the application of this premium sound quality features to TME Live’s online concert, Ryuichi Sakamoto’s concert as we concentrated on building a new benchmark in sound quality for the domestic streaming industry. More users are opting for songs with high sound quality.
On QQ Music, the number exceeded 5 million on a daily base totaling nearly 100 million daily streams. We also launched and enhanced a number of features to allow users to flexibly customize their listening experience.
Kugou Music and QQ Music unveiled a pitch and tempo alteration feature, [Foreign Language], with which users can remark their favorite songs.
Our algorithm upgraded also contributed to our more personalized listening experience leading to sustained healthy year-over-year growth in QQ Music and Kugou Music, recommendation streaming volumes and the time spent per user in the fourth quarter.
Specifically, QQ Music recommendation inspired more listening than search which continues increase in the percentage of streams coming from our recommendation. Another focus in 2022 was to enrich users’ virtual experiences on our platforms, particularly through comprehensive collaboration with Weixin Video Accounts in the Tencent ecosystem.
First, through TME Live, our performance brand, which hosted 63 online and offline events throughout 2022, we held hands with Weixin Video Accounts to innovate in the active formats and build new avenues to distribute music and video content.
For instance, at Hacken Lee [indiscernible] concert nearly 20,000 users casted their votes on either our platform or Weixin Video Accounts to select the final. We also joined attracted over 23,000 paying viewers towards the [indiscernible] concert, which is the highest number to-date among TME Live’s musical installment performance.
Second, we further applied our song recognition feature to automatically identify the background music of videos from Weixin Video Accounts and direct users to QQ Music to listen such as our Weixin ring tone audios in their own videos.
What’s more by the end of 2022, over 60,000 indie musicians on our Tencent musician platform have used the one-click release feature to publish their original songs on Weixin Video Accounts.
Beyond professional music content, during the fourth quarter, we also promoted user engagement by allowing our Weixin users to share music videos of their own theme on Weixin Video Accounts.
The famous song on Weixin Video Accounts [Foreign Language] racked up nearly 100 million music streams on TME’s platforms in the fourth quarter, a stronger testament to the vibrancy of our joint built music ecosystem with virtual elements. The singing features have also been upgraded to create more enjoyable experiences for our karaoke users.
In the fourth quarter, we rolled out several real-time features namely the one-player model, SingMaster, [Foreign language], two-player model, Karaoke King, [Foreign Language] and multi-play model, [Foreign Language] to ensure users with the excitement of simultaneous singing and competition.
On top of these new entertainment choices during the fourth quarter, we also continued to engage Weixin users with singing effect updates, such as the vocal enhancement [Foreign Language] feature for Weixin VIP users to create a studio quality in our immersive singing environment.
Music lovers, particularly the young ones are getting attracted by our music-based virtual use cases, at TMELAND, our immersive virtual sing park 8 million users in the avatars joined Coca-Cola and KFC virtual parties and celebrate a new year alongside artists during the fourth quarter.
We also released – we are listening to [Foreign Language] on TMELAND, which brings users avatars together to listen to content in virtual scenarios such as [indiscernible] and a New Year celebration.
Lastly, to incubate a vibrant young and trendy karaoke community, we upgraded Kugou concept, Kugou [Foreign Language], two of our music products designed for Gen Z users.
During the fourth quarter, these updates include more real-time interactive features to help the young generation identify people with shared music tastes and encourage them to actively create, share and socialize. Thanks to the warm receptions and the adoption of their diverse functions, these two apps both tripled their MAUs year-over-year.
With that, I’d like to give the floor to Tony to review our business operations. Tony, please go ahead..
Thank you, Ross. Hello, everyone. During the fourth quarter, the surge in COVID cases and churn of our casual users amid competition led to the year-over-year decline in online music mobile MAUs. Along with cost optimization measures aim that boosting monetization efficiency as a platform of scale.
Meanwhile, we continue to strengthen our monetization capabilities with improved operating efficiency and have achieved high quality growth in both subscription and non-subscription revenue during the fourth quarter.
Most excitingly, our subscription revenue delivered healthy growth year-over-year and quarter-over-quarter, reflecting our balanced approach. Online music paying users, a high-quality user cohort, maintained a strong growth trend and ARPPU also continued to improve sequentially for the third consecutive quarter and increased year-over-year.
The strong paying user and ARPPU momentum was driven by our improved operating strategy, leading to optimized content quality, more attractive member privileges broadened sales channels and more effective promotions.
Subscribers to our Super VIP membership, TotiHoyan, continued to grow during the fourth quarter as we expanded our offerings to provide premium sound quality and premium master tape and added a wealth of privileges such as long-form audio, digital album and karaoke to the membership package.
On the non-subscription side, its revenue also improved year-over-year and quarter-over-quarter during the fourth quarter. Revenues from our advertising business continued to recover quarter-over-quarter. Specifically, ad supported mode delivered strong performance during the quarter with sequential growth in its revenues.
Through our music with Brand’s partnership, leading advertisers, including WU LIANG CHUN, Coca-Cola, KFC and JD.com embraced TME Live and TMELAND as innovative channels for musical format advertising in the fourth quarter, particularly given their appeal to young users.
On the merchandising side, we work with a wide range of A-List artists, including Lu Han, JJ Lin, Wang Yibo, Wang Jackson, Wang Roy, [indiscernible] this quarter to release the physical albums, digital albums, vinyl records or customized artist merchandise with head stop benefits.
Moreover, during the fourth quarter, we launched Artist Collection cards, [Foreign Language] a new series of photo card as collectibles in Putao Mall.
We commenced the rollout with [Foreign Language], which became highly sought after among young users, demonstrating our end-to-end content release advantage, spanning head start and benefits, artist-related products and multichannel promotion.
Moreover, we have strengthened our long-form audio content offerings with more audio books based on novel IPs and self-produced paid children’s literature. So, subscribers doubled year-over-year to surpass 10 million during the fourth quarter, driving solid year-over-year growth of revenues from long-form audio subscription.
Our IoT service MAUs achieved double-digit growth year-over-year, thanks to our expanded model coverage as well as a diversified content library with Dolby Surround Sound library and TME Live content added respectively, on selective electric vehicle and smart TV terminals. Moving on to our social entertainment services.
During the fourth quarter, as a result of macro headwinds, increased competition from other platforms and the surge in COVID cases, social entertainment services, MAUs and paying users declined year-over-year.
Against this backdrop, we will focus on product innovation and content differentiation while exploring fresh ways to fulfill users, social and entertainment needs.
For WeSing, its multiperson singing room in both video and audio settings have continued to enrich real-time interaction scenarios on the platform, resulting in increased penetration rate and user time spent in these rooms, and we are planning to roll out the feature to our other platforms in the future.
Meanwhile, we took the operation experience from our singing and social products and our proven monetization models to the international market, expanding our presence through both organic growth and M&A. Revenues from our overseas business continued to increase year-over-year in the fourth quarter.
For live streaming services, although macro environment continued to weigh on our revenues from traditional video live streaming, we focus on providing differentiated content and entertainment experiences to explore new value generators. Specifically, we are fostering a tighter connection between audio live streaming and our music platforms.
Following the successful expansion into live streaming by QQ Music, Kugou Music has also started to build up its audio live streaming service, which has a huge growth potential given its massive music user base.
What’s more, leveraging our expertise in cultivating rising talent, we are creating more room for our indie musicians to grow into promising live streaming performance.
For instance, in the fourth quarter, our self-produced hit songs like Puppetry, [Foreign Language] helped their singers grow the number of fans substantially, thereby increasing both copyright revenue and live streaming income. Another example is our musician Li Y.
His original song Worthless Relationship, [Foreign Language] has attracted high streaming volume and landed a spot on many of our music charts as we are building a bridge between performance and the fan bases revenues from audio live streaming increased by double digits year-over-year with solid growth in paying users and ARPPU year-over-year.
Last but not least, during 2022, we continue to fulfill our social responsibilities with an innovative model to translate music’s emotional expression and influence into social practices. The spirit of Chinese song, [Foreign Language], our core cultural project is now in its 4th year.
In the fourth quarter, it launched an initiative for the Guangxi music style and partnered with Singer’s Fox Hu and XIN Liu to promote Chinese traditional culture through the power of digital music.
In December 2022, many of the musical works from the spirits of Chinese Song 2020, a public welfare album we released previously officially entered the first digital collection of the national archives of publication and culture, supporting the preservation and inheritance of Chinese culture.
In conclusion, we exited 2022 with solid performance across our business where we made significant advancements in content and platform upgrades, refined user experience, push forward with monetization models and optimize costs, all together, laying a solar foundation to fuel growth in revenues and profitability into 2023.
As we move forward, we will remain committed to creating endless possibilities with music and technology to blaze a new trail in 2023 and in the years to come, while contributing to better fulfilling our responsibilities as a key music industry player.
With that, I would like to turn the call over to Shirley, our CFO, for a closer review of our financials..
Thank you, Tony. Hello everyone. I’ll discuss our results from a financial perspective. The fourth quarter of 2022 marked another quarter to evidence our firm commitment to cost control and operating faces improvement with continuous growth in IFRS and non-IFRS profit for the 4th consecutive quarter. In Q4, our net profit was RMB1.2 billion.
Non-IFRS net profit was RMB1.5 billion, up by 71% year-over-year and by 6% sequentially. Total revenues were RMB3.4 billion, up by 0.8% sequentially. In Q4 2022, music subscription revenues grew to RMB2.4 billion up by 21% year-over-year and by 5% sequentially.
Online music paying users grew to 88.5 million, up by 16% year-over-year, representing the 3.2 million net adds sequentially. Monthly ARPPU in Q4 was RMB8.9 in up by RMB0.1 sequentially and by RMB0.4 from Q4 2021.
The strong paying user and ARPPU growth were driven by more attractive member privileges, such as improved sound quality, broadened sales channels, more effective promotions, optimize content quality and high-quality services.
This will also resulted from our ongoing efforts to cultivate users’ willingness to pay for music and improvement in operating businesses. Revenues from advertising continued to recover and grew sequentially as markets start to recover and we launched new monetization models.
To give our users more options, we launched ad-supported model and provided more inventory, which contributed to our revenue growth. With increased interest in innovation advertising channels, TME Live and TMELAND became popular and an attractive and leading advertisers for music format advertising.
We remain confident about the long-term growth potentials in advertising business. Social entertainment services and other revenues were RMB3.9 billion down by 18% year-over-year due to the evolving macro headwinds, competition from ad platforms and surge in COVID-19 cases in the fourth quarter of 2022.
To adapt to the changing environment and to stabilize revenue scale, we continue to differentiate our content offerings by enrich our virtual interactive product offerings and cross-platform collaboration. Gross margin in Q4 was 33%, up by 4.2% year-over-year and by 0.4% sequentially.
The increase was primarily due to improvement of monthly ARPPU for music subscribers, growth of paying users, lower revenue sharing fees for livestreaming services and improved operating cost efficiencies. Now moving on to operating expenses.
Total operating expenses from Q4 were RMB1.4 billion or 18.2% of total revenues, down by 5.6% from 23.9% of total revenues in the same period last year. Selling and marketing expenses were RMB266 million, down by 65% year-over-year. And this is our fourth quarter with more than 50% cut in selling and marketing expenses on a year-over-year basis.
For the reduced spending on user accretion had impacted our MAUs. Our core music subscription services continued its rapid and health growth trajectory. We continue to closely monitor the ROI of each promoting channel [indiscernible] external promotion channels and an average of [indiscernible] to attract users and promote our brands.
General and administrative expenses were RMB1.1 billion, up by 2.6% year-over-year. The increase was mainly due to increased investment in research and development in areas such as international branch, [indiscernible] from audio, any [indiscernible] supported model extra.
Our effective tax rate for Q4 was 12.2% compared to 11.5% in the same period of 2021. The increase in effective tax rate was mainly because some of our entities are entitled to different tax benefits in ‘21 – in 2021 and 2022. For Q4, our net profit and net profit attributed to equity holders of the company were RMB1.2 billion.
Now IFRS net profit and non-IFRS net profit attributable to [Technical Difficulty] reached a record high to RMB1.5 billion and RMB1.4 billion, respectively. Non-IFRS net profit margin was 20.1%. Our best and diluted earnings per ADS continued to grow in the fourth quarter of 2022.
Based on diluted earnings per ADS for RMB0.73 and RMB0.72 respectively, up 121% and 125% on a year-over-year basis. Non-IFRS base and diluted earnings for ADS were RMB0.92 and RMB0.91 respectively, up 8% at 82% on a year-over-year basis.
Such results demonstrate our initial success on operating business improvement as well as the impact from share repurchase program. As of December 31, 2022, our combined balances of cash, cash equivalents, term deposits and short-term investment were RMB27.4 billion, as compared with RMB25.4 billion as of September 30, 2022.
The increase was due to our health operating cash flow of RMB2.1 billion for the fourth quarter of 2022. Such a combined balance was also affected by the change in exchange rate of RMB to USD at different balance sheet sales. Last, I’ll briefly discuss our performance for full year 2022. Total revenues were RMB28.3 billion, down 9% year-over-year.
IFRS net profit was RMB3.8 billion. Non-IFRS net profit was RMB4.9 billion, up by 13% year-over-year. Revenues from online music services were RMB0.5 billion, up by 9% year-over-year to reach music subscription revenue was the largest contributor.
Our music subscription business grew rapidly throughout the year with new revenues of RMB8.7 billion and a 19% newer growth rate. Revenues from social entertainment services declined by 20% year-on-year due to the changing macro headwinds, increased competition and impact related to COVID-19. Gross margin in 2022 was 31%, up by 0.9% year-over-year.
The increase was primarily due to our effective control of content costs, including revenue sharing fees for live streaming services and improved operating cost efficiencies.
Total operating expenses for 2022 were RMB5.6 billion, down by 70% year-over-year, particularly selling and marketing expenses in 2022 decreased by 57% from 2021 as we reduced investment to use operation costs and promotional activities during the year.
Net profit and net profit attributable to equity holders of the company was RMB3.8 billion and RMB3.7 billion, respectively. Non-IFRS net profit and non-IFRS net profit attributable to equity holders of the company was RMB4.9 billion and RMB4.7 billion, respectively. Finally, I will close with some comments and outlook for 2023.
Built upon the success of effective cost and expense controls and operational efficiency improvement in 2022, we will focus on monetization expansion and revenue growth in 2023, while keeping cost and expenses management. Our core online music services, particularly music subscription will continue to be our key growth driver.
Paying users and monthly up are expected to continue to grow. Meanwhile, we continue to expand the suite of monetization tools such as ad-supported model, [indiscernible], customized artist merchandise, Super VIP and [indiscernible] and expect them to become important revenue contributors in 2023.
For social entertainment services with challenges from competition and changing macro headwinds, we expect to face pressures in keeping revenue still and will continue to invest in audio live stream and extend our international footprint for long-term growth.
Furthermore, we will keep investing in high-quality content and original content production, as well as new products and technologies, such as AIGC. We are confident about the long-term sales growth of our company and the overall music industry and remain focused on providing high-quality investment returns for our shareholders.
This concludes our prepared remarks. Operator, we are ready to open the call for questions..
[Operator Instructions] And today’s first question comes from Alicia Yap from Citigroup. Alicia, your line is opened. Please unmute yourself and go ahead..
Hi, thank you. Good evening, management. Thanks for taking my questions. And also congrats on the solid quarter. So with TME concluding 2022 with improving margins and also the fundamental trends, I think Shirley just also comment a little bit the 2023 outlook.
So if management can elaborate a little bit more detail in terms of overall, what are you expecting for the online music revenue growth specifically, is there any change on your music subscriber growth target or any ARPPU trend that you’re expecting? And also for the social entertainment, do you still expect the revenue as we begin the year-over-year declining trend into the 2023? Thank you..
Thank you for your question. So overall, we currently expect that 2023 will be a year of positive growth for both top line revenues of around mid-single-digit percentage as well as a bottom-line net profit of around low-teens percentage.
In addition, we expect quarterly revenue from our online music services to exceed that of social entertainment services to become a primary source of revenue during some point within this year. This is driven by growth of both China’s pro-growth policies at the macro level as well as our continued investments to strengthen our operations.
In the – in terms of online music, we expect subscription revenue to continue to deliver healthy growth of over 20% year-over-year, driven by both growth in paying users as well as ARPPU. In addition, advertising, long audio, IoT services are all expected to contribute meaningfully to the growth.
In terms of social entertainment, while traditional video live streaming continue to face competitive pressure, our audio live streaming and international businesses can partially compensate by delivering healthy growth. Net-net, that means social entertainment is expected to see a milder rate of decline compared to last year.
And combining all of the above with our continued focus on cost management to improve efficiency, we currently expect net margins to also improve into 2023..
Thank you. Our next question comes from Alex Poon from Morgan Stanley. Alex, your line is open. Please un-mute yourself and go ahead..
Congrats management on very strong results. My question is related to gross margin trend in 2023 and maybe even longer.
In ‘22, because we have news growing faster than social segment, we are still able to achieve gross margin expansion and how sustainable is this in ‘23, maybe even ‘24 as music segment for now, the gross margin is still lower than the social segment and music continues to grow faster than social.
So, how will our gross margin profile change over the next 1 year to 2 years?.
Okay. I will talk about gross margin. Gross margin is 33% in Q3, increased by 4.2% year-over-year and increased by 0.4% sequentially. There are several positive factors on our gross margin.
First, the increase of net adds, monthly up of music subscription and the growth of long subscriber revenue, such as digital album, artist-related and merchandise, long form audio revenue will all have positive impact on our gross margin.
And second, decrease – the increase of promotion activities and increase the content quality of performance, revenue sharing ratio of live streaming have been controlled and a decrease on year-over-year basis. And third, we increased RC, requirement of content costs and optimized model of RC we restructured the agreement with some music labels.
Started to switch MG model to revenue-sharing model we got more reasonable MG, and we have the positive feedback. And the fourth, the optimize of the technology and the operation strategy related to [indiscernible] and the storage capability and improved utilization of our service and equipment.
Our operational costs decreased year-over-year based on the sequentially. While the decrease of social entertainment revenue and the change of revenue mix in social entertainment revenue has a negative impact on gross margin. Looking forward to 2023, all these positive factors will be continued and the negative factors also can also be continued.
We will continue to expand the suite of monetization tools such as AD supported advertisement, artist-related merchandise, super VIP membership and we expect our online music revenue will keep growth. So, we will continue to forecast – to focus on increased efficiency of all business units and tightened our cost terms control in 2023.
So, we expect our gross margin will be increased on a year-over-year basis in 2023..
Thank you. And our next question from Lincoln Kong from Goldman Sachs. Lincoln, your line is open. Please un-mute yourself and go ahead..
Thank you, management. Congrats on the good results. My question is on the enterprising business. How do we see so far, let’s say, year-to-date enterprising demand recovery for us? And we talk about this ad support model.
So, in terms of the new format of ads or creating more ad inventory, how do we think about the progress here especially how to better monetize our game [ph] i.e. into ‘23.
What’s our outlook here?.
Yes. Thank you for your question. We continued to see a recovery in the advertising revenues, especially following the reopening post-COVID. The splash screen ad continued to recover at a healthy pace.
In addition to that, ad-supported mode advertising continued to ramp up and currently account for roughly about mid-teens percentage of the advertising revenue. And then thirdly, in terms of sponsorship advertising, while during the fourth quarter, it temporarily weakened due to COVID.
We do expect with the reopening, there to be many more live events and as a result, advertising – sponsorship advertising opportunities. So, all-in-all, we do expect this year to be a strong recovery year and a year of positive growth for the ad business.
And then in terms of verticals, in the fourth quarter, given the e-commerce seasonality, we did saw a meaningful increase in the e-commerce vertical. And then in addition to that, Internet services in general, food and beverages, consumer electronics as well as local services are also verticals where we saw continued demand from advertisers..
Thank you. And our next question comes from Lei Zhang from Bank of America Securities. Lei Zhang, your line is open. Please un-mute yourself and go ahead..
Hi management. Thank you for taking my question and congrats on the solid results. My question is mainly regarding your sales and marketing and investment plan in 2023 since we have a pretty good cost control last year, so can you give us more color for 2023? Thank you..
Okay. About the selling and the promotion expenses, we have taken tight control on selling and marketing expenses in Q4 continuously and resulting in a 65% decrease on a year-over-year basis. And we balanced MAUs and monetization when evaluating the healthiness of business.
We focus more on managing such as level of user engagement, user retention reach and paying users. We will further monitor our eye of each promotion channel and manage the internal and external resources more effectively, improve efficiency of selling and marketing expenses in the future.
In 2023, selling and promotion expenses will be operated at a very low level and will be continued to decrease on a year-over-year basis, but the cutting degree will be limited compared to those in 2022. And in 2023, we will invest in the content promotion, so that will be a new way for our upgrading our MAUs, yes..
Thank you. And our next question comes from Wei Xiong from UBS. Wei Xiong, your line is open. Please un-mute yourself and go ahead..
Hi. Good evening management and thank you for taking my question. I want to get some of your thoughts around AIGC. As management mentioned, we are exploring possibilities and leveraging technology in that area.
So, how do we assess TME’s strategic positioning around AIGC? What are some of the potential benefits and business opportunities that we plan to pursue this year? And what could be the potential investment or cost implications related to that? Thank you.
We have always invested in AI, in particular, recently with a focus in LLM, large language models. Clearly, that will lead to more applications. We will continue to leverage partnerships with Tencent. Examples of our applications would include recommendation as well as playlist in a more conversational setting.
Other examples would include music posters, greeting cards, synthetic voice, all of which are already currently being applied to our platform. Into 2023, we will invest in our own R&D in LLM to drive music-related conversational applications and also to help musicians dramatically reduce the barrier to their creativity.
And overall, that should result in more creativity and high-quality content, which is good for the overall industry..
Thank you. And our next question comes from Xueqing Zhang from CICC. Xueqing, your line is open. Please un-mute yourself and go ahead..
Hey. Thanks for taking the question. And just a follow-up on a pool of music subscription business.
We noticed that the program music side continued to improve this quarter? And how does management think about the improvement in the first quarter in content industry? You mentioned in the prepared remarks, it may be driven by optimized content quality, more attractive member privileges, more sales channels and more effective promotions, so give us more color on this way.
Thank you..
Well, the short answer is yes. We do expect the ARPU to continue to improve, driven by all the things that we mentioned.
So, a combination of continued improvement in the quality of our membership offering, the quality and the comprehensiveness of the privileges in our membership, more broadened sales channels which include internal kind of within platform channels as well as external outside of our platform channels as well as more effective promotions.
And by more effective promotions, obviously, that would lead to a higher ROI when we do engage in promotions, which are helpful to ARPPU..
Thank you. And our next question comes from Thomas Chong from Jefferies. Thomas, your line is open. Please un-mute yourself and go ahead..
Hi. Good evening. Thanks management for taking my questions and congratulations on good set of result. My question is about the competitive landscape.
Given that in terms of the sales and marketing spending and margin improvement, are we seeing the competitive landscape more stabilized and that’s less threat from the short form video? And my second question is about online music services surpassing social entertainment at some point for this year.
I just want to get some color with regard to the long-term revenue mix, how should we think about online music services revenue contribution in the long-term? Thank you..
I will tackle the second part first about the revenue mix. As we mentioned, we do expect the music – online music services revenue to surpass social entertainment. And so clearly, what that would mean over the long run, we expect that to continue into the long run.
So, we do expect the online music services to be the primary revenue source going forward as opposed to being a one-off effect.
Within online music services, obviously in the fourth quarter, you have seen that music subscription grew just north of 20% and then non-subscription revenue grow at a faster pace than that, primarily due to the low base in 2021. And then looking into 2023, we obviously think that the effects will be slightly different.
Music subscription will grow at over 20% on a year-over-year basis, as I mentioned. And then non-subscription revenue, we will see pockets of growth in the areas of advertising which is growing very well, long audio IoT services, but somewhat offsetted by volatility in digital album as well as sub-licensing..
Thank you. And our next question….
And also with the unique platform and content strategy of TME, TME is now starting to have some monetization through the content reductions, content licensing and also rising sponsorship with our life and brings.
And also, as we mentioned, we started to have some artist-related merchandising revenue, which can help us to explore further e-commerce opportunities. Those will also help us to some new revenue streams in the future..
Okay. Thank you. And our next question from Charlene Liu from HSBC. Charlene, your line is open. Please un-mute yourself and go ahead..
Thank you so much. I have two questions. First, can you share your expectations for subscriber growth for paid music? And how should we think about impact from resumption of offline entertainment, first is willingness to pay as macro recovers post reopening? That’s the first question.
Separately, on gross profit margin, I think management had mentioned that it still has room to improve further. What could be a mid-term target for GPM and also, I think kind of subset to that question is, how would investments into LLM impact us from a P&L standpoint? Thank you so much..
I will take the first part on the subscriber growth and perhaps Shirley can add a bit of comments around gross margin. Our subscriber growth has been following a secular trend. So, irrespective of COVID, irrespective of reopening, we continue to see a secular trend behind the subscriber growth.
Our focus is much more on subscription revenue as a whole which is driven by both paying user growth as well as ARPPU. And Barry [ph] mentioned offline and more offline activities.
I think bear in mind that that also benefit us in the form of advertising monetization, as Cussion mentioned, because we organized a vast number of offline music events and we generate a meaningful amount of sponsorship advertising revenue as a result.
During the fourth quarter, that part of the business actually showed us some temporary impact because of COVID. Now with the reopening and with more offline activities, we actually expect there to be a positive impact to the sponsorship advertising revenue as a result.
So, that would help act as a second growth driver to our online music revenue in addition to subscription..
And about the gross margin of music, we believe we can have the same gross margin rate about – came to the Spotify. And for the overall gross margin of our company, we believe in 2023, our gross margin will be increased and higher than that in 2022. And in the long-term gross margin, our target will be 35%, that is mentioned in our IPO, yes..
Thank you and we will take our last question today from Xueqing Zhang from CICC. Xueqing, your line is open. Please un-mute yourself and go ahead..
Thanks for another question. And one more question on labels cooperation. And today, we announced that TME reached an agreement with JVR and B’in Music, so can management give out some more color on labels collaboration and how does it affect our gross margins? Thank you..
Yes. Can we just repeat for the partners, for many music labels and artists domestically and also internationally. We insist to put an IP right and we try our best and be able to drive a healthy development of the Chinese music industry.
So currently, we provide the most comprehensive music library and also the best top-page of music content for users in China.
I think that in the – continuing in the long-term relationship, we will continue to work with the music labels in content co-productions and also with our meeting technologies that can help us to do the promotions of the music in a better manner.
Besides, we are also focusing on some of the live events as the Chinese market is now reopened, we are seeing that there is a lot of live event opportunity coming up. So, for TME Live, that we are doing extremely good quality of music shows in last year. Most of them are online.
But this year, we are going to have more offline events in partners with our music labels. And we are expecting that we can have more shows like the top artist concepts, music festivals and also some live house events as well.
So, I think that we have demonstrated a really good long-term partnership with most of the music labels all over the world and we are the trustworthy and also the people that partner with them. So, we have expected to have more in-depth cooperation coming in the future..
Thank you. We are approaching the end of the conference call. I will now turn over the call to our host, Mr. Tony Yip for closing remarks..
Thank you everyone for joining us today. If you do have further questions, please feel free to contact our IR team. This concludes today’s call. Thank you and talk to you next time..