Tencent Music Entertainment Group (TME) Q2 2022 Earnings Call Transcript

Tencent Music Entertainment Group  (NYSE: TME) Q2 2022 earnings call dated Aug. 15, 2022

Corporate Participants:

Cheuk Tung Tony Yip — Chief Strategy Officer

Cussion Kar Shun Pang — Executive Chairman

Zhu Liang — Chief Executive Officer (CEO), Director

Min Hu — Chief Financial Officer (CFO)

Analysts:

Alex Poon — Morgan Stanley — Analyst

Lei Huang — Bank of America — Analyst

Alex Yao — JPMorgan — Analyst

Alicia Yap — Citi — Analyst

Xueqing Zhang — CICC — Analyst

Wei Jiang — UBS — Analyst

Unidentified Participant — — Analyst

Presentation:

Operator

Ladies and gentlemen, good evening and good morning and thank you for standing by. Welcome to the Tencent Music Entertainment Group Second Quarter 2022 Earnings Conference Call. Today you will hear discussions from the management team of Tencent Music Entertainment Group followed by a question-and-answer session. Please be advised that this conference is being recorded today.

Now, I will turn the conference over to your speaker host today, Mr. Tony Yip. Please go ahead, sir.

Cheuk Tung Tony Yip — Chief Strategy Officer

Thank you, operator. Hello, everyone, and thank you all for joining us on today’s call. TME announced its quarterly financial results today after the market close. An 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, our 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. The company will discuss non-IFRS measures today, which we believe are meaningful metrics for evaluating our performance. Please refer to our earnings release and SEC filings for reconciliation of these measures to the most comparable IFRS measures.

With that, I’m pleased to turn over the call to Cussion, Executive Chairman of TME. Cussion?

Cussion Kar Shun Pang — Executive Chairman

Thank you, Tony. Hello, everyone, and thank you for joining our call today. In June 2022, we celebrated the first anniversary of launching our dual engine content and platform strategy. Over the past year, TME has continuously innovated business models and improved our all-in-one music entertainment content and product capabilities to better serve our users and partners. Meanwhile, facing the complex and evolving industry landscape, we continue to explore music intrinsic commercial and cultural value. As always, we tried to nurture our music ecosystem and foster a sustained healthy development of China’s music industry.

On the content side, we effectively enriched our original content production capabilities. To that end, we launched a new smart music assistant functionality in May, enabling creators to quickly make decisions for our proprietary PDM, predictive model at key stages of the music production process such as thermal screening and market appeal potential evaluation. Each of our tools facilitates more efficient production of high quality work, accessed by thousands of original songs, produced and screened at more than 100 million times in the second quarter.

Notably, Blessing of Three Lifetimes, [Foreign Speech] are songs by Hai Lai A Mu dedicated to his beloved partner was a blockbuster that we produced, promote and helped to and released on the variety show, the Treasure Vault. [Foreign Speech] It dominated major music charts and generated huge social media buzz comprising over 205 billion views and 350 million streams in the second quarter. Meanwhile, we continue to refine our original content catalog, focusing on key verticals such as gaming and hip-hop music.

In the second quarter, we collaborated with popular game titles, including Honor of Kings, [Foreign Speech], League of Legends, [Foreign Speech] and Peacekeeper Elite, [Foreign Speech] among others and work with well-known artists, including Angela Zhang [Foreign Speech] to produce 15 chart-topping game songs. Notably, the theme song of the Honor of Kings game character, [Foreign Speech] sung by [Foreign Speech] has achieved the highest number of first week streams among all QQ Music game songs released in the first half of 2022.

What’s more in the trendy hip-pop genre, we cooperated with the NBA on its 75th anniversary album, the title single, Time to Shine, [Foreign Speech] performed by China’s artist Lay Zhang, Zhang Yixing and American Pro Basketball Star, Nick Young, became the first Chinese theme song to appear in the NBA finals. Next, Tencent Musician Platform spared no efforts to cultivate a vibrant community of indie musicians, while creating a positive social impact. Tencent Musician Platform continues to empower musicians with a wealth of online and offline promotion capabilities and monetization avenues.

In the second quarter, we introduced a new service for our musicians to easily mass distribute musical work globally to over 150 popular platforms such as Spotify and YouTube with a single click, which has already brought 190,000 songs by over 10,000 musicians to overseas audience as of the end of the second quarter. Kugou also now allows musicians to publish their songs easily on mobile phones and to self host pay-per-view live events with merchandise sales and package. For instance, we recently hosted a pay on my birthday party for musician Yu Yen with a rich pipeline of additional parties yet to be unveiled.

What’s more, as long-term support program for musicians, our Four-Stage 2022 program launched at the Open My series in April, which has already produced offline performances by over 70 groups of musicians across seven cities. Tencent Musician Platform also plays a perfect roll in exploring China’s rich, deeply and back to social and cultural values through music work. Notable examples in the second quarter include first, new trend in Chinese ancient style [Foreign Speech], an album hosted by up and coming and top musicians who get it to promote Chinese cultural food music. Second, My Girl, our music for female musicians designed to promote female independencies and self-awareness.

Third, our French album, MOSAIQUE, [Foreign Speech] are joint effort between our musicians, French musicians and the French Embassy, which was showcased on the front page of Apple Music recommendation list, further enhancing our musicians’ international appeal. With our finger on the pulse of our users’ preferences, we continue to zoom in on both trendy and time on the music experiences to further enhance the quality and variety of music on our platform, as well as our reputation as the go-to-destination for QQ Music verticals such as classical, DJ and hip-hop.

We established a strategic cooperative relationships with professional classical art institutions, launched the Kuwo Beijing for everything plan, [Foreign Speech] and build up Kugou’s new rap brand, rap trailblazers, [Foreign Speech] among other initiatives in the second quarter. One remarkable success was the 2022 hit single [Foreign Speech], which dominated charts on many music platforms after created joined at the Beijing for everything plan, achieving nearly 700 million streams by the end of the second quarter on TME’s platform.

Moving on to TME Live, our comprehensive online merge offline performances brand was presented 132 high-quality live music performances since its debuted two years ago. In the second quarter, in addition to online live concerts for Roy Wang, Wang Yuan among others, TME Live was also proud to bring new life into two legendary series of record by concerts by household name artists, Leslie Cheung, and Jay Chou, [Foreign Speech] supporting the ultra high definition visual and song restorations enhanced by AI algorithms for selective events.

This two huge hits went viral and dominated the top trending list, accumulating over 100 million unique viewers within the Tencent ecosystem and social media buzz of 6 billion views. Jay Chou’s concert also set a new record in viewership for online concerts in the industry and his artist merchandise including two action figures sold through our [Foreign Speech] and Tencent channels, achieved close to RMB 10 million in GMV in the second quarter.

TME Live not only serves as an online stage for artists and musicians but also demonstrate our game changing creativity offline. Through our TME Live in-house live house tool, we are providing precipitating artists and users with immersive interactive experiences. Early artists including [Foreign Speech] held live events in the second quarter and ticket for some events were sold out in just two hours.

In summary, what matters most to music lovers, music creators and the broader music industry are the primary areas where we will continue to invest and drive innovation, showcasing our ambition to support the sustained growth of the music ecosystem in China. That concludes the process update on our growing content capability.

Now, I would like to turn the call over to Ross who will share more about our platform strategies. Ross, please go ahead.

Zhu Liang — Chief Executive Officer (CEO), Director

Thank you, Cussion. Hello, everyone. Moving on to our platform strategy, in the second quarter, we continued to innovate our four pillars of entertainment, namely listen, watch, sing and play to provide our users with stage up to express their musical taste and build their sense of identity on TME’s platform, which in return deepens their recognition of and the connection with our products.

In terms of listen, in the second quarter, we added a variety of refined product features to provide a more professional music streaming experience. For example, we pioneered homepage lyrics, [Foreign Speech] which displays synchronous lyrics on the mobile home screen when streaming songs. We also rolled out a premium song feature, [Foreign Speech] supporting real-time song quality enhancement, which is now available via our Super VIP Membership and has been activated by 85% of this subscribers.

What’s more, to further improve users music discovery efficiencies, in the second quarter QQ Music launched [Foreign Speech] on the homepage which recommends songs to users based on their favorites with hit of personalized [Foreign Speech], contributing to new highs for QQ Music recommendation, penetration. In addition, Kugou rolled out our new search feature allowing user to easily find different version remix of the same song. They also added features such as look, playback of our selected song section [Foreign Speech] and self-defined music chart preferences, [Foreign Speech] to create a more personalized music streaming experience.

As for watch, we shall add another dimension to users immersive music in the Tencent experience. Based on our understanding of user’s preferences, the music-related video content we provide to Weixin Video Accounts is very popular among users on WeSing, ranking among the best in the music category of Weixin Video Accounts. We also continued to work with Weixin Video Accounts during the second quarter to bolster our promotion capabilities, especially for indie musicians. The number of our musicians, which are connected Weixin Video Accounts continued to grow by double-digit quarter-over-quarter. Meanwhile, our products also released new updates to strengthen visual experience including, one, customize the dynamic images on personal playlist and two, Focus Station, [Foreign Speech] which provides a video enhanced listening experience across three scenarios, studying, sleeping aid and meditation.

The third pillar of the unique music in the Tencent experience may provide is Sing. WeSing launched a major version upgrade in July to expand the experience of singing from a mirror production of audio work into multi-dimensional personal experience. In the second quarter, we rolled out our 3D avatar functionality, making sure to serve as users identity card in the virtual world and allow them to generate [Indecipherable] when recording and seeing in the dress up avatar on stage. Additionally, in the second quarter, we provided innovative singing tools to stimulate user’s interest in music creation participation for [Indecipherable].

WeSing pioneered the industry’s AI-based voice synthesis technology, allowing user looking to create a visual thing based on their own voice, which improved upon its likening to its owner [Indecipherable]. Kugou also unveiled the first single in the voice of Gen Z celebrity Yang Chaoyue, enabling users customize and synthesize songs with just one click. Riding on the trend of virtualization, we also enhanced our playing element by extending our use cases and the monetization opportunities across music virtual interactions.

In the second quarter, TMELAND, our immersive virtual simcard, teamed up with Adidas Originals and hosted China’s Virtual Rap concert, [Foreign Speech] including [Indecipherable]. The sponsored event registered over 7 million viewers, settling a new record in VR shape for TMELAND. We also continued to upgrade our VR album rooms, which combined listening to songs, which are [Indecipherable] for artists. A total of 13 stars have settled in our VR album rooms including singer and actress, Cindy Wang, [Foreign Speech] and musician Liu Shuang, who joined in the second quarter.

As a pioneer in the application of innovative listen, watch, sing and play functions, QQ Music has continued to improve its [Indecipherable] year-over-year, a testament to our young content additions and advanced feature interactions. Our long-form audio service to run out of our music portfolio, we are simultaneously differentiating our content. Notably, we have been strengthening of our brand up here in sleeping aid content, one of the fastest-growing categories on QQ Music. We have teamed up with professional organizations, music labels, musicians, hotels and other ecosystem partners who provide diverse professional sleeping aid content with by AI or real world celebrated and delivered sequential growth in users scale. Streaming volume and trends in this vertical. In addition, in the second quarter, we continued to enhance our collaborations with Tencent Video to successfully promote popular audiobooks and associated IPs such as the third season of [Foreign Speech]. [Indecipherable], TME’s long-form audio offers of the same title enjoyed a much upswing in the streaming volumes.

With that, I’d like to give the floor to Tony to review our business operations. Tony, please go ahead.

Cheuk Tung Tony Yip — Chief Strategy Officer

Thank you, Ross. Hello, everyone. In the second quarter, our online music MAU were 593 million, down year-over-year, primarily due to reduced marketing spend. However, subscription revenue continued to deliver robust year-over-year and quarter-over-quarter growth along with paying user growth and a sequential rebound of ARPPU. Meanwhile, we continued to strengthen engagement among our core user cohorts by deploying richer content, innovative product features and continual new iterations.

Our IoT service MAUs continued to achieve double-digit growth year-over-year as we enriched the use cases of our products and then established collaboration with a broader group of partners. For example, we now partner with the Top 50 passenger vehicle and Top 15 electric vehicle manufacturers by sales, bringing car owners the ultimate in-vehicle music enjoyment through new features such as Dolby Surround Sound and thousands of customized sound effects. In addition, through our partnership with Little Genius Smart Watch, [Foreign Speech] which is mostly used by students, we think MAU in the smart watch segment grew triple-digits year-over-year.

Despite the macro headwinds that weighted on our online music services revenue in the second quarter, subscriptions maintained its growth trajectory, with 18% subscription revenue growth year-over-year. We are also confident we can sustain the ongoing rebound of our ARPPU, while continuing to boost paying user growth during the remainder of this year. As a result of macro changes and the resurging COVID-19 outbreak in the second quarter, our advertising revenue softened year-over-year. However, it rebounded quarter-over-quarter, driven by the June 18 e-commerce sales promotions as well as ad sponsorship opportunities arising from TME Live and TMELAND.

In addition, we consistently innovated to build a diversified advertising portfolio. Our incentive ad-based free listening mode is making good progress and during the second quarter, we launched a host of new advertising formats and inventories on music charts, search pages, banners and playlists among others. As we have strengthened our advertising monetization with additional avenues, we also successfully attracted well-known brands such as Sprite, Beijing Hyundai and Pepsi to sponsor a variety of customized online and offline live events recently, attracting participation by dozens of popular artists and aspiring musicians in these highly engaging events.

We continue to deepen our content partnership to enrich the user experience and explore additional monetization avenues in digital music. First, accompanying the launch of Jay Chou’s [Foreign Speech] latest digital album, Greatest Works of Art [Foreign Speech], we tailored diverse activities for its fans such as a customized vinyl record player interface and sound effects, artist merchandise and interactions in Jay Chou’s virtual room. Copies sold exceeded 6 million by the end of July marking another digital album blockbuster on our platform.

Next, in the second quarter, we entered into strategic partnerships with Time Fengjun Entertainment, the music label of TFBOYS and Teens in Times [Foreign Speech] avex China and the talented female artist, XIN Liu, Yuxin among others where our platform has a head start period on their latest music, customized artist merchandise or unique artist-fan interaction events. Third, we joined hands with YH Entertainment Group, [Foreign Speech] a well-known artist management company to launch Artist Subscription, [Foreign Speech], packages for its 13 well-known artists such as Meng Meiqi and Justin Huang [Foreign Speech], providing customized audio and video content for their subscribing fans.

We also doubled down on our efforts to build a young and trendy cultural community to expand our Gen-Z user base. In the second quarter, our campus musician cultivation plan, Voila! Campus [Foreign Speech] organized the Wish For A Happy Graduation [Foreign Speech] event and teamed up with artists [Foreign Speech] and campus musicians [Foreign Speech] to release the song, Small World [Foreign Speech]. These initiatives brought inspiring messages to the first group of graduates born in the 2000s, resonating strongly with the new graduates’ demographic.

What’s more, we began to bring offline music festivals back to our audience in the second quarter such as Kugou’s cool fun, [Foreign Speech] live performance parade, which debuted in [Foreign Speech] May and the 1st WAVE Music Festival partnered with SAIC Audi, [Foreign Speech] in June, encouraging online live streaming and offline interactions between fans and musicians. These events are just the beginning of our return to live performances. We have an exciting lineup of offline experiences planned for the coming quarters.

Now, let’s turn to our social entertainment services. Its MAU sequentially improved while paying users declined year-over-year due to competition and industry adjustments. We will continue to improve our competitiveness through ongoing product innovations and new initiatives such as audio live streaming and virtual interactive product offerings. For WeSing, we launched its latest version with tools to energize the singing experience, while lowering the barrier to participate. For instance, the upgraded one click voice in the handset feature, [Foreign Speech] customizes voice improvement based on the songs written as well as users’ voice and volume and temper, producing a more natural effect. Along with other upgrades mentioned earlier, these efforts paid off as evidenced by the strong double-digit year-over-year expansion in karaoke room penetration and user time spent in the second quarter in addition to the year-over-year growth in recordings, penetration and user time spent.

In the second quarter, WeSing also capitalized on the success of the hit song Lonely Warrior, [Foreign Speech] which debuted on TME and achieved 4 billion streams across our platform since its launch with a nationwide cover concept to convey positive cultural power to school students attracting a broad group of participants online. In response to the competition faced by traditional live streaming services, we continue to expand our content verticals and bring more differentiated content to improve user experience. QQ Music live streaming continue to expand the scale of its audio live streaming content offerings where it expanded content across sleeping aid, studying and commuting use cases received wide user acclaim.

In the second quarter, it also collaborated with Tencent Musician Platform to organized 39 sessions of the real-time live singing event, [Foreign Speech] connecting musicians and their fans in gaining over 10 million viewers. These efforts contributed to double-digit growth in the average daily number of host and viewers as well as a year-over-year increase in QQ Music live streaming’s revenue in the second quarter. We were also successful in exploring overseas markets with audio live streaming activities such as chat rooms, leading to strong revenue growth in overseas markets in the second quarter.

We also delved into the virtual idol and animation live streaming verticals favored by the young generation. WeSing added a new live 3D function which captures host’s expressions and movement in real time and allow the host to use an avatar for live streaming and multi-person interactions. Additionally, Kugou’s live streaming host together with its self-owned virtual idol, [Foreign Speech] and Tencent Animation and Comics, [Foreign Speech] jointly organized a number of events to recommend popular comic IPs to ACG fans through live streaming during which events participating host recorded triple-digit growth in user time spent and the number of viewers of the live streaming views.

Last but not least, I’d like to close with a word about our social responsibility initiatives. On Children’s Day, we worked with Tencent to launch a Little Red Flower Charity Concert, [Foreign Speech] uniting over 30 groups of artists and musicians in a heartwarming live concert for children with special needs. We also partnered with La Mer to host a special public welfare concert for World Oceans Day, launching a welfare song, Blue New Life, [Foreign Speech] by Mao Buyi to create environmental awareness around the marine ecosystem. We are proud of these efforts to leverage the emotional power of music to advance our social commitment.

To conclude, as our dual engine content and platform strategy move forward, we will continue to use technology to elevate the role of music in people’s lives and support the sustained development of the music industry with our strong and growing toolkit.

With that, I would like to turn the call over to Shirley, our CFO for a closer review of our financials.

Min Hu — Chief Financial Officer (CFO)

Thank you, Tony. Hello, everyone. Next, I’ll discuss our results from financial perspective. Our total revenues for Q2 2022 were RMB 6.9 billion, down by 14% year-over-year and up by 4% sequentially. In the second quarter of 2022, our IFRS net profit was RMB 892 million and the non-IFRS net profit was RMB 1.07 billion, which represented a sequential increase of 13%, as a result of our effective cost control and improved operating efficiency. In Q2 2022, we are more focused on the return of the promotion for subscription service and the continued to strengthen content operations. We achieved quarterly growth in subscription service.

Music subscription revenues grew to RMB 2.11 billion, up by 18% year-over-year and by 6% sequentially. Online music paying users grew to 82.7 million, up by 25% year-over-year, representing a 2.5 million net adds sequentially, as we benefit from expanded sales channels and the paying users loyalty resulted from the ongoing efforts we made to cut away the users readiness to pay for music and high quality content and service we provide. Month ARPPU was RMB 8.5, representing a decrease from RMB 9 in the same period last year and an increase from RMB 8.3 in the first quarter of this year.

Our strategy to grow our music business in the healthy and sustainable way has started to bear fruit and contributable to the continuous growth in musical subscription revenue. Revenues from advertising decreased year-over-year, as advertising business continued to be negatively impact by the industry adjustment and by outbreak of COVID-19. However, advertising revenues grew sequentially as advertising business began to recover moderately from the outbreak of COVID-19 since June. The June 18 e-commerce sales promotions also contributed to the sequential increase in advertising revenues. We are proactively expanding ad inventory, optimizing ad display and rolling out innovative advertising formats to manage these challenges. We remain confident about long-term growth potential and expect advertising revenues to continue to recover moderately in the second half of 2022.

Social entertainment services and other revenues were RMB 4 billion, down by 20% year-over-year as we faced an evolving macroenvironment and increased competition from other platforms. To adapt to the changing environment and to stabilize revenue scale, we have a differentiated our content offering by enriching our virtual interactive product offering and enriching cross-platform collaboration. Meanwhile, we continued to immerse in audio live streaming and extend our international business, resulting in growth in revenues from audio live streaming and overseas business year-over-year and sequentially.

Gross margin in Q2 2022 was 29.9%, down by 0.5% year-over-year because the decrease in our total revenues outpaced the decrease in our total cost of revenue as some of them remained fixed in nature. Gross margin improved sequentially, resulted from our effective control on content cost including revenue sharing fees for live streaming business and improved operational cost efficiency, we will continue to take measures to manage cost effectively and improve overall efficiency.

Now, moving on to operating expenses, total operating expenses for Q2 2022 were RMB 1.4 billion or 20.5% as a percentage of total revenues, down by 0.4% from 20.9% as a percentage of total revenues in the same period last year. Excluding the impact from the expenses related to our application for secondary listing, operating expenses as a percentage of total revenues would have decreased by 1% year-over-year.

Selling and marketing expenses were RMB 303 million, down by 55% year-over-year. During the quarter, we continued to take measures to improve efficiency, closely monitor the ROI of each promotion channel, better utilize the external promotion channel and leveraged our internal traffic to attract the users and the promote our brands. The reduced marketing spend resulted in loss of some occasional users and impact our music and use selectively. However, our music subscription service continued to grew rapidly with sales growth in paying users and the level of user activity.

General and administrative expenses were RMB 1.1 billion, up by 11% year-over-year. Including the impact of approximately RMB 44 million from the effect in Q2 related to our application for secondary listing, G&A would have increased by 6% year-over-year. We continued to invest in product enhancements, technology innovations and more diversified product offering as well as closely manage employee-related expenses by including headcount efficiency. Our effective tax rate for Q2 2022 was 12.2% compared to 11.5% in the same period of 2021. The increase in effective tax rate was mainly due to some of our entities are entitled to different tax benefits in 2021 and 2022.

For Q2 2022, our net profit was RMB 892 million and net profit attributable to equity holders of the company was RMB 856 million. Non-IFRS net profit was RMB 1.07 billion and non-IFRS net profit attributable to equity holders of the company was RMB 1.03 billion. Non-IFRS net profit margin was 15.4%. As of June 30, 2022, our combined balances of cash, cash equivalents, term deposit and short-term investments were RMB 25.8 billion compared with RMB 21.9 billion as of March 31, 2022. During the 3-month ended June 30, 2022, net cash generated from operations was RMB 1.2 billion and the cash used in share repurchases was RMB 669 million. We also incurred a net cash outflow of RMB 497 million for acquisition of shares in various subsidiaries and associates. Such combined balance was also affected by the change in the exchange rate of RMB to USD at different balance sheet dates.

Looking forward, we will continue to focus on our core business and invest mindfully in new products and services, including long-form audio and international business to maximize our investment returns and the future growth potential. Meanwhile, we will continue to implement cost control in areas, including revenue sharing fees for social and entertainment business, content royalties, operating costs, account-related costs and selling and marketing expenses to improve our overall operational efficiency.

This concludes our prepared remarks. Operator, we are ready to open the call for questions.

Questions and Answers:

Operator

Thank you. We will now begin the question-and-answer session. [Operator Instructions] Our first question will come from Alex Poon with Morgan Stanley. Please go ahead.

Alex Poon — Morgan Stanley — Analyst

Good morning, management. Congrats on a very strong quarter on the profit side. My question is related to gross margin. Gross margin is up about 2 percentage point on a sequential basis in Q2 and despite social revenue was flat on a QonQ basis. Can management explain on each of the segment gross margin trend from Q1 to Q2 and how should we think about the second half? Thank you very much.

Min Hu — Chief Financial Officer (CFO)

Okay. About the gross margin, this quarter, we take more measures to control cost and improve operational efficiency and we have started to bear fruit. Gross margin in Q2 increased 2% sequentially. The following factors have positive impact on gross margin. First, revenue-sharing ratio of live streaming have been controlled and continued to decrease sequentially. And second, we increased the RC requirement of content cost. We distracted the agreement with some music labels and say the positive feedback and that have positive impact on our gross margin.

And third, to optimize the technology and operating strategy related to [Indecipherable] and the storage capability and improved the utilization of our service and equipment, our operational cost decreased sequentially. And fourth, subscription revenue growth and advertising revenue recovery also had positive impact on gross margin. And we will continue to focus on increasing efficiency of all business units and the cost item and the we expect our gross margins will be increased in the next quarter.

Operator

Our next question will come from Lei Huang with Bank of America. Please go ahead.

Lei Huang — Bank of America — Analyst

Thanks management and congrats on the solid results. My question is mainly about your music ARPPU. You noted Q-on-Q rebound of music ARPPU and anymore color you can share behind this? And how should we look at ARPPU trend going forward? And related to this, can you give us more color on a Super VIP like adoption rate, user feedback and the contribution to the ARPPU? Thanks.

Cheuk Tung Tony Yip — Chief Strategy Officer

Yeah, in terms of the ARPPU, we saw a sequential improvement from last quarter’s RMB 8.30 to this quarter’s RMB 8.50. And that’s a result from a more effective promotions as well as more discipline in the way that we manage the marketing spend. Our focus as we mentioned last quarter is on the quality of the subscription revenue growth as the overall target. In that, we are aiming to both grow the paying user as well as the ARPPU at a healthy pace. And we’ve been able to achieve that in the second quarter and we expect this level of a growth trend for both our subscribers and ARPPU to continue into the rest of the year.

Operator

Our next question will come from Alex Yao with JPMorgan. Please go ahead.

Alex Yao — JPMorgan — Analyst

Hi, good morning, management. Thank you for taking the question. I have a couple of questions. The music subscription side of the business, can you guys share with us your progress in terms of pushing on to the pay wall? What percentage of the company now is becoming pay wall? What target are you aiming to achieve by the end of the year? And also regarding the non-paying user, your user experience is becoming than peer levels they are able to listen to content. What attempt to do with these guys? Are you going to let them go or you want to engage them through other strategies and features? Thank you.

Cheuk Tung Tony Yip — Chief Strategy Officer

Thank you. Sure. Well, first of all, in terms of our subscription package, obviously, I think we continue to be on track. As we have more and more discussions with our label partners to add more content into the premium package and that progress is going well and we expect there to be more content partners to be added to the pay wall in the second half. So, I think we will talk more about that as that bears fruit. And then in terms of the balance between free user experience and pay user experience, we mentioned previously and we also touched upon it, this time, the incentive ad-based free listening mode, we are seeing very good progress on that type of free listening mode.

We think that’s a good way for us to strike the balance because there will, as with any entertainment platform online, you’re bound to have a portion of users with very low probability of conversion to become a subscriber and yet we need to find a way to be able to monetize and so the incentives ad-based free listening mode is a good way for us to do so. Right now, within our advertising revenue, close to 10% of that on a run rate basis is generated by the incentive ad-based free listening mode, free to incentive ads more correctly speaking. So, I think that’s — and that’s growing quite well. So, we continue to expect that to serve as the surface the balancing factor to provide a good free user experience.

Operator

Our next question will come from Alicia Yap with Citi. Please go ahead.

Alicia Yap — Citi — Analyst

Hi, good morning, management. Thanks for taking my questions. I have a question related to the advertising. So, can management share with us the ad sentiments among the advertiser? Which industry vertical actually has recovered strongly and which industry verticals are still remain quite weak? And then, when can we expect the ad revenue to experience the reaccelerate on the year-over-year basis, reaccelerate the growth again? Thank you.

Cheuk Tung Tony Yip — Chief Strategy Officer

Yeah. Obviously, I think in the first half, as a result of industry adjustments on the splash ad as well as the pandemic measures, advertising revenue was quite weak in the first half. However, as we, as the pandemic improves as well as the opening — as well as the macroeconomic situation improves, we are starting to see moderate recovery of the advertisers’ demand. Couple that with our ongoing effort to expand our advertising format as well as advertising inventories that we’ve mentioned, we are expecting to see a recovery of the advertising revenue in the second half.

In addition to kind of the ad formats that we mentioned such as incentive ad or inventories that we mentioned in the various parts of the platform, we are seeing increasing amount of interest by ad sponsors that are particularly interested in interactive events, events that we organize both offline and online such as ones that we do on TMELAND or through TME Live or other sponsored events with Pepsi, Sprite and Beijing Hyundai, et cetera. In terms of verticals in this quarter, we see decent demand recovery, particularly from e-commerce given the e-commerce June season. The consumer stable specifically categories such as food and beverages, as well as the the automobile industry.

Operator

Our next question will come from Xueqing Zhang with CICC. Please go ahead.

Xueqing Zhang — CICC — Analyst

Hey, thanks, management for taking my question. And my question is related to TME Live. We saw some other such video platforms have launched online –online live performance during the summer. And so just wondering how do we position TME Live and how do we think about the competition landscape? What’s your strategy and monetization plan for this business? Thank you.

Cheuk Tung Tony Yip — Chief Strategy Officer

Okay. For TME Live, I think we have very good plant in having arrangement or not just for the top-tier artists. But we are also pulling the long-tier. The other season verticals as well. We have a really good cooperation with video accounts. So, we also strengthened our distribution capabilities for our live projects. As we mentioned during our call, we mentioned about some of the top-tier artists like Jay Chou and also Leslie Cheung, with that we trying to do a new release of their traditional their very popular classical — their classic concerts, aroused a lot of interest from the users and we also bringing our technology and finding that be help to improve the quality of the overall video and also the audio qualities, so to ensure a better user experience for our users.

We have continued to bring in some of the artists, for example, interactive capabilities to demonstrate in our TME Live program as well. So, we have a very good confidence, especially we are doing online and offline collaborations for our concepts. So, all of this will be continued to strengthen our TME’s — TME Live projects and we definitely seeing that it is going to be some more quick programs to come in the future.

Operator

Our next question will come from Wei Jiang with UBS. Please go ahead.

Wei Jiang — UBS — Analyst

Good morning, management. Thank you for taking my question and congrats on the earnings feat this quarter. My question is around the online music subscription or paying user addition. We see that this quarter, the net paying user addition was a little bit lower than the previous run rate given our focus on the quality growth and also seek the balance between paying user and ARPPU. So, just want to check, how should we think about the run rate of the paying user addition for the second half, also next year? And given our focus on the marketing spend to strengthen our cost controls, will that impact the paying user retention? Thank you.

Cheuk Tung Tony Yip — Chief Strategy Officer

Yeah. As we mentioned before, our overall goal for the subscription revenue for the online music is to see a healthy growth in over our subscription revenue and not be overly leaning on just either the subscriber or the ARPPU, so we want a healthy growth in both metrics because we think the whole industry will benefit from focusing more on the quality of service as opposed to just on price and we do believe there is a lot of value in the music subscription service that we offer and that our continuous efforts to cultivate the users’ willingness to pay for the subscription service that continue to see good results.

And so by having more of a balanced approach, we lay a stronger foundation for the long-term growth, which we continued to see there to be a strong potential. Obviously, at the same time, we are very focused on expanding on the privileges and the service that we offer within the subscription plan. So, we mentioned that we continue to add more and more privileges such as this quarter we mentioned about the Super VIP whereby for RMB 30 a month, which is double the price of a normal premium subscription, you get a lot more such as you get access to a large number of DJ albums, you get access to super high quality sort of music effects ones that Ross mentioned, you get access to the WeSing membership, you get access to the long audio membership, et cetera, et cetera.

So, we are seeing — we are seeing, it’s early stage, but we are seeing good traction as we roll that out and people are adopting and they are appreciating the privileges that we’re putting in to those Super VIP. So for example, the premium sound quality feature that’s adopted by over 80% of people who subscribe to the Super VIP. And so that also help us improve the ARPPU in addition to having more discipline in cost control as well as promotional spend.

Operator

Our next question will come from Jen Howe [Phonetic] with TH Capital. Please go ahead.

Unidentified Participant — — Analyst

Yeah, good morning, management. Congratulations on a exceptional good quarter. The question is related to your [Indecipherable] strategy with Tencent. And with already started to advertising number and content distribution and I wonder for our newly added numbers, how many, what percentage of them comes from Tencent channel and going forward, as Tencent continue to add new function like Tencent [Indecipherable] et cetera, et cetera. So, how you guys going to have a, how to say long-term cooperation and that will enable you guys to have more sustainable users instead of as only things that was driven by this hit albums or artists? Thank you. That’s my question.

Cheuk Tung Tony Yip — Chief Strategy Officer

Yeah, we have very extensive collaboration with Tencent. I can start and perhaps Ross can add additional color as well. We have extensive collaboration with Tencent both on the content production side as well as on the music promotion side. On the content production side, we mentioned that we almost every quarter, we showcase original songs that are produced either for some of the Tencent IPs such as selected IPs and Tencent Games or some of the IPs from Tencent Videos, for example, and many of these original content that are either produced by us or coproduced together. They see very good results in terms of popularity on the music charts. That’s kind of one big bucket of areas.

The second big bucket of areas are in the form of content promotion. A prime example of that is our deepened collaboration through the WeSing video accounts. It is an important means for us to enrich the music video-based content. All of our platforms, be it QQ Music or Kugou or Kuwo, we promote a lot of music-related video content through WeSing video account. In fact, the content that we provide is ranking amongst the best in the music category within the WeSing video account sort of music verticals. And so that shows a way for the music lovers to discover music and they — after which the users come back to TME platform to continue to explore and enjoy music in a more deepened way.

And then finally, while we don’t rely on Tencent channels at all from a user perspective given our music platform is already very established and within in operations for many years have very established brands, so most of out our traffic is organic. We do have more and more collaboration for example, through our partnership between QQ Music and WeChat, WeSing. There are more product features collaborations such as, you can now set ringtones on WeSing using music provided by QQ Music. Obviously you can go back to QQ Music to listen to the songs. You can update your personal profiles using songs provided and being listened to by on QQ Music, et cetera. So, we are seeing more and more collaboration and we expect that to continue.

Operator

Okay. We are now approaching the end of the conference call. I will now turn the call over to your speaker host today, Mr. Tony Yip for closing remarks.

Cheuk Tung Tony Yip — Chief Strategy Officer

Okay. Well, thank you very much for joining our second quarter earnings call. If you have further questions, please feel free to contact the Investor Relations team. And this concludes today’s call. We look forward to speaking with you all again next quarter. Thank you and goodbye.

Cussion Kar Shun Pang — Executive Chairman

Thank you so much. Goodbye.

Operator

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