JAGUAR MEDIA SEPT 8TH, 2020

“CHINESE TECH DEMYSTIFIED” SERIES – EPISODE 5

Bilibili (BILI): A leader in ACG with room to grow

Bilibili is often labeled as China’s version of YouTube, but that comparison is only half-accurate. Fundamentally, it is a video sharing and vlogging platform. But if we dig a little deeper, we will find that it caters almost exclusively to a dedicated under-30’s crowd while shunning older audiences, and the video content is overwhelmingly focused on animation, comics, and games (or ACG in short), fashion, pop culture, and music. No news, no politics, no academic discourse, no finance, none of that mundane stuff.

Bilibili was founded in 2009 with the intention of being a worthy ACG competitor to AcFun (recall AcFun is the former parent company of DouYu). Bilibili’s founder Xu Yi was formerly a top user with a huge following on AcFun, but grew increasingly frustrated over time with community and website-related issues. And following a series of high-profile disagreements with AcFun management, he decided to sever ties and create Bilibili on the back of funding from now-CEO Chen Rui, a games/animation-loving billionaire investor who currently owns over 20% of the company. Before long, Bilibili saw significant traffic, enough to challenge AcFun’s.

Due to this rivalry and history, Bilibili is commonly referred to by the Chinese internet community as “B Site” or “Station B”, while AcFun is nicknamed “A Site” or “Station A”. Fun fact: The word “Bilibili” doesn’t have any literal meaning. Rather, it is a playful reference to a main character from A Certain Scientific Railgun, a popular comic/animation series at the time, whereby “Bilibili” is the sound she makes when firing her weapon. Believe it or not, this reference was actually integral to Bilibili’s early adoption success, as it helped the platform quickly attract tons of users who understood where the word came from.

The late 2000’s saw a massive spike in new video sharing platforms in China, as they all attempted to recreate the success of YouTube. But what made Bilibili and AcFun stand out from the crowd was the high levels of interactivity they offered to the online community, giving users the sense that they were enjoying videos alongside each other rather than in isolation. For example, AcFun was the platform that introduced the concept of “bullet comments” to China in 2008, not long after it was first pioneered in Japan. The term refers to live user comments that are layered over the video being played, flying across the screen from right to left (see images below). While such a feature may be considered ugly and distracting in the Western world, China’s user community quickly took a liking to the sense of engagement, as it made people feel like they were truly watching videos with others.

Meanwhile, Bilibili takes its sense of community one step further than the competition, even requiring people to achieve at least a 60% mark on a randomized 100-question online exam on games/animation/pop culture/tech, in order to qualify as a content uploader and full member. From a growth standpoint, it may seem counterintuitive to make the registration process this complex. But Bilibili embraces quality over quantity, and as we touch on further below, even reversing course slightly would not sit well with its amassed user base because this exclusivity what makes Bilibili feel like a “superior dedicated society” vs other video platforms. In fact, this nonconformist philosophy comes right from the company’s eccentric leadership, who has been known to praise other businesses for “being a community” or deride them for not being one.

While the aforementioned differentiation certainly played a part, there were two other key factors which helped to cement Bilibili’s leading position over the last several years:

• Bilibili managed to win backing from both Alibaba and Tencent. In 2019, the company entered a partnership with Alibaba Taobao in return for an 8% stake. The deal connects popular vloggers and content creators with vendors who can create and sell related animation/game-inspired merchandise. According to Alibaba, within 12 months of the partnership, the number of Taobao users who had bought Bilibili-related items exceeded 100M. Separately, Tencent has invested in Bilibili on three separate occasions to date. In 2015, the behemoth participated in Bilibili's Series B funding round, with its resulting holdings accounting for 5.2% of the total issued. Then in 2018, Tencent reinvested $318M while upping its stake to 12%, as part of a strategic collaboration agreement on anime and games-related content. And lastly, in February 2020, Tencent increased its stake to 43.7M Class Z ordinary shares, accounting for 18% of Class Z shares and 13% of total issued shares. As a general rule, Alibaba and Tencent usually avoid investing in the same firms. Thus, Bilibili is one of the very few companies that has managed to attract inflows from both.

• In 2016, Bilibili won exclusive rights to Fate/Grand Order content distribution in China. Fate/Grand Order is a highly popular video game, animation, and comic series from Japan, with over $2B in ex-China global Apple and Android sales at the time (and stable fan base). This was a complete game changer for Bilibili, as Fate/Grand Order contributed 83% of the company’s total revenue at the time of its IPO, and over 50% the following year. We could even say that without this win, there would have been no US IPO, and no significant backing from Alibaba and Tencent.

Present situation: Bilibili is currently laying the groundwork for accelerated future growth, and doesn’t mind losing some of its existing user base in the process.

In Bilibili’s early days, the local media and online community often described the company as being too 佛系, or “Buddhist”, in their approach, due to its lack of any real interest in growth and maximizing revenue. For the longest time, the platform resisted inserting ads into videos and stood firm behind the difficulty of its 100-question qualification quiz. In fact, CEO Chen Rui once boldly proclaimed: “Bilibili may go bankrupt one day, but we will never change.”

But when management chose to go public, they acknowledged the company had to sell its soul and forgo much of the platform’s exclusivity, making it more accessible for everybody. After all, the stock market and shareholders tend to prioritize growth above all else. Fast forward to the company’s 11th anniversary event in June 2020, and Chen is now singing a much different tune: “If Bilibili had refused to change, it would have gradually receded and eventually been destroyed.”

So, let’s take a look at what exactly has changed, and what else the company has done to lay the foundations for accelerated growth:

First off, Bilibili watered down the overall difficulty of its entrance exam, while adding some common knowledge and cultural questions to the mix. The very next quarter, this contributed to MAUs reaching a record 172.4M (+70% YoY) and paying full members reaching a record 13.4M (+134% YoY). The company also changed its corporate identity, switching its theme color from light pink to blue while modifying its catchphrase to sound more professional/corporate: “Bilibili has all the videos you’re interested in.”

Next, the company diversified into mobile game livestreaming and e-sports (see Huya episode for game livestreaming explanation), signing two popular professional e-sports teams to long-term contracts in the process. Bilibili’s biggest wins to date in this area include beating out Huya and DouYu last year to obtain 3-year nationwide media rights for the League of Legends (LoL) World Championships, as well as the recent announcement of a 3-year partnership with Riot Games, for live broadcasting major LoL e-sports events globally, including the World Championship, Mid-Season Invitational, and All-Star Event.

Meanwhile, Bilibili also expanded its video and livestreaming platform to include non-ACG categories, such as fashion, documentaries, culture, education, and lifestyle. The company even brought on Hollywood celebrities like The Rock (see image on Page 2) and Kevin Hart to do livestreaming sessions. Today, livestreaming (both gaming and non-gaming) makes up roughly a quarter of Bilibili’s revenue. Outside of the platform, Bilibili began hosting live events for its most popular content creators to showcase their works/performances, and also tried its hand at massive advertising and viral campaigns. Earlier this year, they pulled off a successful and highly controversial Youth Day awareness video (which racked up tens of millions of views within 24 hours), championing China’s young generation to surpass their predecessors while parodying the lamentations and grumblings of elders. Under the hood, this was yet another step for Bilibili in shedding its reputation of being an ACG-only site in an attempt to become more mainstream.

One last thing of note. Bilibili launched a new mobile game in Q2 (localized from Japan), called Princess Connect Re: Dive, which saw record pre-registrations. Judging from the conference call comments, management expects the game to make a decent sized contribution to revenue for years to come:

“Regarding Princess Connect Re: Dive its life, we expect this game will be having very long lifecycle and we expect this game to last quite a long period. And for this game, in many aspects, it has broken the historical record. In terms of pre-registered number, we have over 6.5M people pre-registered, and the newly added user for this game also achieved a record high number. And for games like Princess Connect with such large user base and within the four-month period of operating history, it has been very smooth in terms of operations and technical operations.”

Putting all this together, naturally, most of Bilibili’s changes detailed in this section did not sit well with existing users, who felt the platform was becoming too commercialized and too mainstream. Complaints ranged from losing their sense of belonging, increased rude comments plus infighting, newcomers’ ignorance of “unspoken etiquette”, as well as Bilibili’s main feeds becoming bombarded with ads and non- ACG content. All this criticism has resulted in concerns that Bilibili is at risk of a mass exodus of its original users, but as long as incoming new users continue to vastly exceed the complainers, the company has made it clear it will continue down the path of appeasing Wall Street’s growth demands.

Bilibili’s 2Q20 growth deceleration is temporary, but expect losses to persist.

Because video sharing is a free service for the most part, Bilibili has had to find other ways to derive income. The company makes the bulk of its revenues from mobile games distribution, which accounts for 53% of total revenue. Livestreaming services represent another 24%, followed by advertising at 12% (see our Youdao note for an explanation of why advertising revenue is low), and e-commerce at 11%.

Looking at key metrics, Bilibili’s MAU’s have decelerated in the most recent 2Q20 earnings report, but this is just a result of significant growth being pulled forward during the pandemic in Q1:

On a YoY basis, community size and engagement continued to accelerate rapidly, with daily video views reaching 1.2B, up 97%, and 89M new official members who passed the platform’s 100-question exam, up 65%. Impressively, the company saw a 153% increase (to RMB 825M) in revenue contribution from premium memberships, live broadcasting, and other value-added services. By the end of Q2, they had 10.5M premium members, up 100%, with user loyalty/retention rates remaining well above 80%. This secondary metric is important because premium members are best-primed for cross-selling opportunities.

Meanwhile, advertising enjoyed 108% growth, as Bilibili’s improved AI-powered algorithm and younger generation demographic resulted in a widened range of content verticals, including fashion, lifestyle, technology, fitness, as well as autos. Not much else to say here, except management is confident they “can deliver a continued growth rate and good trajectory in Q3 and Q4.” Personally, I think those assumptions are correct, because the second half of the year is stuffed with shopping festivals/events, and Bilibili also tends to have plenty of events towards the fourth quarter, which should attract advertisers.

Going forward, management expects to report record top line numbers and MAUs in the following quarter, implying a re-acceleration:

“As far as our Q3 user outlook, we believe we’ll reach historical highs during this quarter and this summer is a little bit special because in July, a majority of the students are going school and August is a full month of summer vacation. And September will be a period where students are returning to school. So, in August, we believe we’re able to achieve a pretty high MAU target and on quarterly, monthly average basis we believe we can reach historical high.”

Now, let’s look at profitability. With the exception of HUYA, every Chinese tech company we’ve looked at so far is loss making, and Bilibili is probably one of the worst offenders in this regard. The company reported a net loss of RMB 183.7M in 2017, followed by RMB 565.0M in 2018, and RMB 1.30B in 2019.

Total operating expenses increased to RMB 1.2B in 2Q20, up 103% YoY. An analysis of the financial report shows that revenue-sharing and sales/marketing are the biggest costs (see chart below). Note that revenue-sharing refers to incentives and proceeds paid out to content creators and live streamers, exactly like how Huya and DouYu share revenues with their streamers. In Bilibili’s case, paying out 39% of total revenue implies paying out ~1.25-times its revenue from livestreaming, which is insane considering Huya and DouYu are only sharing about 0.5-times! This is a fine example of the great lengths the company is willing to go to in order to maximize its livestreaming market share.

Due to the emphasis on its rapid expansion plans, we can expect Bilibili’s losses to continue ballooning for the foreseeable future. But as with most listed growth companies, I suspect the market will continue to prioritize top line and user growth as the main drivers for upside in the stock. Thus, given all the actions management has been taking to make the platform more accessible and less intimidating, plus room for growth in livestreaming and mobile gaming revenues, the path of least resistance for the stock remains higher (assuming no adverse macro conditions).

Chronicle Yu Research Analyst, Jaguar Analytics Email: [email protected] Twitter: @JaguarAnalytics