Qfin Holdings - Q4 2018

Transcript

Operator (participant)

Good day, and welcome to the 360 Finance Fourth Quarter and Full Year 2018 Earnings Conference Call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star, then one on your touch-tone phone. To withdraw your question, please press star, then two. Please note this event is being recorded. I would now like to turn the conference over to George Shao, Head of Investor Relations. Please go ahead.

George Shao (Head of Investor Relations)

Hello everyone, and welcome to 360 Finance's Fourth Quarter and Full Year 2018 Earnings Conference Call. The company's results were issued earlier today, and they were posted online. So joining me today on the call are Mr. Jun Xu, our Chief Executive Officer, Mr. Haisheng Wu, our President, Ms. Alex Wu, our Chief Financial Officer, and Mr. Yan Zheng, our Vice President. They will start the call with their prepared remarks and conclude with a Q&A session. Before we continue, I will refer you to our Safe Harbor Statement in the earnings press release, which applies to this call as we will make forward-looking statements. Also, this call includes discussions of certain non-GAAP financial measures. Please refer to our earnings release, which contains our reconciliation of non-GAAP measures to the most directly comparable GAAP measures.

Finally, please note that unless otherwise stated, all figures mentioned during this conference call are in RMB. I now turn the call over to our CEO, Mr. Xu.

Jun Xu (CEO)

Okay. Good morning, good evening, everybody. Thanks for joining the call. We're very proud of the results we were able to achieve in the fourth quarter and for the last year. 2018 was a turbulent year for the sector. Towards the end of 2017, we saw the arrival of Circular 141, which had a profound impact on the sector, and the impact lasted into the early part of 2018. Then, in the first half of last year, as part of the deleveraging efforts from the Chinese government, the liquidity in the banking system, also the cost of funding, was tight for everybody. Then, towards the second half of the year, June, August, we saw the P2P fiasco across the country. Overall, the sector was under a lot of pressures from both regulatory and the market conditions.

We were very proud of being able to achieve phenomenal growth despite the tough microenvironment. Specifically, we're proud of adding 9.2 million new borrowers with Credit Line. That's how we measure our success. We want to be able to get more credit to Chinese consumers. So we added 9.2 million new borrowers with approved Credit Line with the company in the last year. We're very proud of that. We're proud of our ability to keep the asset quality at an industry-leading level. As you can see from the earlier release, the M3+ NPL ratio was at 0.9%, way below what we see even in the bank's credit card or consumer lending business. Our M6+ vintage loss was 1.6, the highest quarterly vintage. On average, they're below 1.5%. We're proud of our industry-leading fraud rate of 0.2%, thanks largely to 360 Group's security DNA and anti-fraud ability.

Thirdly, I think we're very proud of the resilience and the sustainability during the last year. Both our funding from institutional banking partners was 78% in terms of loan origination in the last quarter of last year. That's the origination. Even if you look at from a balance perspective, out of the CNY 433 billion outstanding balance, 77% were funded by our institutional partners. So that's really behind the extraordinary growth we saw last year. As we all know, a lot of the pressure was coming from the funding side last year. And because of our brand, our extra low MPL ratio, and our stature in the Chinese economic system gave the bank confidence in working with us on a continual basis, therefore giving us a structural advantage in terms of funding availability and funding cost.

So behind those numbers, we believe we will continue to benefit from three perspectives going forward where we command structural advantages compared to the other players. I think, firstly, as I mentioned, funding. We're adding more banks to our partnership list every month. Our funding position is better than any previous period. And given our position in the industry, 360 as a household brand and as a major internet company here in China certainly helps us open doors with a lot of banks. Secondly, in terms of data, given our partnership with 360 Group, we have access to the security data, which is critical to the anti-fraud capability. And fraud, as you all know, is a major source of risk for this type of small-ticket size loan products. So we're very proud of being able to leverage those data and use them effectively in anti-fraud.

I think, thirdly, in terms of customer acquisition, thanks to the branding power of 360 as a household brand in China, thanks to the 500 million active users from 360 Group, we were able to grow the customer base at a reasonable customer acquisition cost. We believe we will continue to benefit from the brand and also from the collaboration with 360 in terms of customer acquisition going forward. So that's a brief overview of the last year. Looking ahead, we're confident we'll be able to maintain the growth momentum into this year. We gave the guidance of top line between CNY 8 billion-CNY 8.5 billion in our release. In the meantime, we're experimenting some new models. In particular, we're seeing some early results from our efforts with regard to small and micro-business lending. We put together a small team last year doing a pilot.

The pilot has given us encouraging early results. We're rolling that out. As you all know, the government and the regulators are pushing hard for small and micro-business lending here in China, and our banking partners are demanding that. We don't think anybody in China has really cracked the code in using mobile internet, big data, and AI to solve the micro and small-business lending opportunity. As one of the leading platforms in China, we're determined to give it a shot and see whether we can solve that problem because that's a bigger market than the consumer lending itself. Consumer lending is about CNY 10 trillion in terms of assets. SME lending is between 3-4 trillion depending on how you cut the sector. So it's a big upside. It's a product the government and regulators are pushing for. And basically, it's also to have unlimited low-cost funding.

So if you generate those types of assets, there's a huge demand from all the banks here in China. The other thing we'll experiment with is to provide our partners with some of our capabilities in anti-fraud, in credit risk scoring, modeling AI capabilities, and share those with our partners and help them to build the capabilities to do online lending. So looking ahead, we're confident the current consumer lending business will continue the growth momentum. And in the meantime, we're experimenting with some new ideas to take the business to the next level. Let me pause here and pass it to our CFO to talk us through some of the financial numbers. Thank you.

Alex Xu (CFO)

Thank you, Jin. This is Alex, the company's CFO speaking. We think our financials are speaking for themselves in the earnings report released. Just a few highlights to share with you. First, the growth, just as Jin mentioned, from the financial perspective, we see tremendous growth for revenue and the top line and bottom line. The revenue growth from CNY 788 million in 2017 to CNY 4.4 billion in 2018, which represents more than 4.6x growth. Our operating margins grow from CNY 210 million to CNY 1.66 billion in 2018, representing growth of more than 6x. If we add in that share-based cost, which gives us the non-GAAP operating income, we see even higher numbers. For the net incomes, we see the growth is roughly 6x as well.

If we add in back the share-based cost, it gives us the Non-GAAP net income growth to almost tenfold, i.e., from CNY 165 million in 2017 to more than CNY 1.8 billion in 2018. That is the first highlight we want to share with you. The second highlight is our cost structure. As you can see from our reports, our sales and marketing expense is relatively high. Last year was CNY 1.3 billion. The reason is we don't think this is expense. We think it's a long-term investment because every customer we invite into our platform will contribute to our business in the coming few years. So it's more like a long-term investment. Certainly, we wanted to address the operating efficiency by showing you the operating margin. In 2017, the operating margin is 26.7%, which increased to more than 50% in 2018.

I mean, the non-GAAP operating margin, i.e., every single CNY as a revenue we earned doubled as an operating income. The efficiency is largely the improvement of efficiency is largely due to the scale of the economy and our management team's dedication to streamline the daily operations. The last thing we want to highlight is our cash position because last year we successfully finished our complete IPO process. And before that, we did one round of pre-IPO financing. Plus the operating cash flow, it gave us a strong cash position for this year. And last year, we see the total cash is CNY 2.8 billion. Obviously, half of them are collateral to funding our business. But the rest is some sort of free cash flow for us to expand our business and to do more pilot projects. I will pause that and then start for the Q&A section.

Operator (participant)

We will now begin the question and answer session. To ask a question, you may press star, then one on your touch-tone phone. If you are using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star, then two. Once again, it is star, then one to ask a question. At this time, we will pause momentarily to assemble our roster. The first question comes from John Cai of Morgan Stanley. Please go ahead.

John Cai (Analyst)

Hi. Good evening, management. Thank you for taking my questions. So I think my first question is about the growth driver. I can see that we added around CNY 10 billion outstanding loan balance in the fourth quarter. I just wonder if we look at the growth driver behind in terms of the average outstanding loan per borrower and the number of borrowers, how would these two factors drive the loan growth for the fourth quarter? And what's our expectation of these two drivers in 2019? Obviously, we have very strong guidance here. That's the first question. And the second question is about customer acquisition. So what is the customer acquisition cost for the fourth quarter? And what's the historical trend? And what do we see in 2019? And the third question, I think, is about the SME lending.

So about that strategy, obviously, it's probably in the pilot stage, but just wonder as online lenders, what's our edge in that? I think typically it seems very offline-heavy operations involved in that lending. Thank you very much.

Jun Xu (CEO)

Thank you. I'll talk about the first question, then I'll pass to our President, Mr. Haisheng Wu, to answer your second question. And probably I'll pick the third question after that. In terms of growth driver, fundamentally, the growth was driven by the funding advantage in the sector. So a lot of companies had funding challenges in the last year. And we were able to fund the growth. I think that's the first point. In terms of on the customer side, it's predominantly acquisition of new borrowers. We added a lot of new borrowers. It's also a little bit of higher balance per borrower as we get more comfortable with some of the existing customers, or we regularly review their credit line and increase line for those good customers. And thirdly, it's also driven by the repeat borrowers we see on the platform.

As you can see from the press release, over half of the origination come from pre-existing customers. So it's a combination of number of new customers, higher balance per customer, and better penetration and repeat borrowing from existing customers. But predominantly, it was driven by new borrowers. It's a huge market where a tiny portion of the market, the upside is still huge. So we want to grow our borrower base last year and this year as well. Hopefully, that answers your first question. With that, I'll ask Mr. Wu to talk about the customer acquisition point.

John Cai (Analyst)

Can you say it in Chinese?

Jun Xu (CEO)

Yeah. I speak Chinese. I can translate for you.

Haisheng Wu (President)

[Foreign language] 我们总体上获客成本是比较稳定，但是短期内我们也看到了会稍微有一些的上浮，是因为我们认为这个市场依然处于一个红利期。360的品牌在这个市场上有很强的转换能力。所以在这几个前提下，我们倾向于去比较快速地去占有市场。这是第一点。第二点，我们在19年我们会寻求对市场进行更多的覆盖，因为我们还有一些比较头部的一些渠道是我们过去并没有完全覆盖到的。比如说，由于历史上360和腾讯的关系不是特别的顺畅，所以腾讯的体系我们更多还没有完全覆盖。但在19年，我们有了一个比较好的开局。所以这些头部渠道我们还会有一个比较大的覆盖上的一个空间。第三点是我们认为这个市场随着监管的收紧，市场的玩家越来越少，所以与我们竞争流量的公司相对在变少。所以我们会有更多的一个竞价的空间去获取一些用户。

Jun Xu (CEO)

Okay. I think there were three points. I think the first point was there was a huge opportunity in the market, and our acquisition cost has been stable over the last year overall. We verified the economic model, and we want to grasp the opportunity in the market and grow our customer base when the market still has a lot of untapped potential. Secondly, looking into this year, we believe we'll continue to acquire new customers in an aggressive manner. One important factor is we're able to tap into some of the leading customer acquisition channels. For example, those Tencent-related channels we're able to penetrate into now. Thirdly, with the new regulation, we'll see, with the new development in the industry, we anticipate less competition in the sector, enabling us to acquire more customers at reasonable costs.

On your SME question, as I said, SME traditionally has been a tough business globally because of 1, customer acquisition cost is high. Two, lack of data in China making it difficult to assess the risk. Therefore, it was buying a large offline business. But we have experimented with some models which we believe have potential to solve those problems using the latest technology and the big data. For example, a lot of the customers in our portfolio, they actually operate online shops at Taobao, JD, or Pinduoduo. There are good data on those platforms which enable us to make sound credit decisions. For example, we have seen good examples of leveraging the tax data and customs reporting data and triangulate those with other data to help us determine the risk level of a particular SME.

So with more data and more transparency, we actually believe we are on the cusp of a fundamental shift, just like what we see a couple of years ago in online consumer lending. Really, the facial recognition technology, the big data, the AI model made it possible to do consumer lending. 5 years ago, it was unconceivable to offer a loan to a consumer without actually seeing them. So as 360, as the leading internet company in China, we have a lot of customers in the sector. It serves a lot of SMEs in its traditional advertisement business. We have good insights into the business nature of those companies. We have access to them. We also are building collaboration with some third-party data vendors and aggregating different sorts of data to enable us to perform a sound credit assessment on these companies.

As I said, no one really has cracked the code, but we want to give it a try.

John Cai (Analyst)

Thank you very much. It's helpful.

Operator (participant)

The next question comes from Daphne Poon of Citi. Please go ahead.

Daphne Poon (Analyst)

Hi, management. Thanks for taking my question. So my first question would be about the funding side. So we understand that on your institutional funding partners, it used to be relatively concentrated with the City and Rural Commercial Bank, which is now potentially subject to the regulatory constraint in terms of their cross-region lending business. So I'm wondering if you can share more details in terms of your progress in diversifying your funding partners and maybe how is the mix between different types of financial institutions currently. And also, further on the funding side, we do see the regulatory environment improving recently. So I'm wondering whether that has helped on your funding cost and your funding availability recently, and what is your current funding cost in Q2 or 2019 year to date? And the second part of the question is I want to chat on the asset quality trend.

So given there's some macro slowdown concerns, so I'm wondering what is your latest delinquency rate trend and whether you see any sign of pickup in the early default? Because we see that this time you only disclosed this M6+ vintage delinquency curve versus previously we used to have the M3+ curve. So we'd like to get a sense what is the early loss rate trend, I guess, recently. Thank you.

Jun Xu (CEO)

Okay. Let me take on the funding questions, then I'll ask our VP for risk management to answer your question on latest asset quality trends. So over the last year, we have shifted our funding structure more towards national banks. We have started working with banks like ICBC in the last year. So regional banks are a smaller portion of the funding structure. We have done some stress tests. So we assume the regulation will just happen like what you described. We concluded that our funding stability will not be affected, and the impact on our funding cost will be minimal. Given the number of banks, consumer finance companies, and the trust companies we have a partnership has gone up a lot. We, of course, worry a lot about regulatory changes, and we've done some serious stress tests, and we're quite happy with the result of the stress testing.

On the liquidity easing, it is having an impact on our funding cost. The funding cost, as I said earlier, last year was on the rising trend because of the tighter liquidity deleveraging from the government and also because of the P2P accident and all that. We're seeing our funding cost stopped going up, being very stable, and with some of our funding partners, we're seeing funding cost going down. So yes, we're benefiting not significantly, but we're benefiting from the easing liquidity situation in China. I'll ask Mr. Zheng Yan to answer your question on asset quality trends.

Yan Zheng (VP of Finance Risk Management)

[Foreign language] 关于坏账0.9%这个事，我们认为0.9%的坏账率其实在这个行业内还是比较低的。那么一个可参考的例子就是信用卡行业。我们知道信用卡行业的整体坏账率水平也平均在1%到2%之间。那么随着我们的AI技术的进展和数据的不断积累，未来我们也是非常有信心继续保持行业领先的风险管理水平的。

Speaker 8

We disclosed the M3 plus delinquency ratio of 0.92%. We believe this ratio is very low in terms of industry average level. For example, the M3 plus ratio of the credit card industry is from 1%-2%. With the innovation of our AI technology as well as the accumulation of databases, we are confident to keep the leading role of risk management among the market.

Yan Zheng (VP of Finance Risk Management)

[Foreign language] 然后关于最近的趋势，就我们现在看到的情况，用户的年化风险的表现是比较平稳的。那对于未来的趋势，我们目前并没有看到会对指标产生明显影响的因素。我们也会持续地去观测客户的风险表现，并且适时地去调整我们的模型和策略，以保证资产质量是处于可控的范围之内。

Speaker 8

According to what we see, the annualized risk performance of our users is stable. We don't see any material impact to the credit quality in the near future. We keep monitoring risk behavior from user side, update our risk management model and strategy, ensure our loan assets quality is reasonable and under control.

Daphne Poon (Analyst)

Okay. Thank you.

Operator (participant)

Once again, if you have a question, please press star, then one on a touch-tone phone. This concludes our question-and-answer session. I would like to turn the conference back over to George Shao for any closing remarks.

George Shao (Head of Investor Relations)

Okay. Thank you once again for joining us today. So if you have further questions, please feel free to contact our investor relations through the contact information provided on our website in our press release. So thank you and goodbye.

Operator (participant)

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