Earnings Call Transcript - AFYA Q1 2021

Operator, Operator

Welcome to Afya's First Quarter 2021 Conference Call. Joining me today are Afya's CEO Virgilio Gibbon and our CFO Luis Andre Blanco. In today's presentation, our executives will make forward-looking statements. These statements typically pertain to future events or our future financial and operational performance and involve risks, uncertainties, and other factors that may lead to actual results differing significantly from our projections. The forward-looking statements in this presentation encompass, but are not limited to, aspects related to our business and financial performance, future expectations and guidance, strategic product initiatives and their anticipated benefits, as well as our outlook on the market and potential impacts from COVID-19. The risks associated with these statements are detailed more comprehensively in our filings with the Securities and Exchange Commission. These forward-looking statements are based on information available to us as of today’s date, and we caution that you should not rely on them as definitive predictions of future events. We also do not commit to updating any forward-looking statements, except as legally required. Additionally, management may discuss non-IFRS financial measures during this call, which should not be viewed in isolation or as a replacement for IFRS-compliant results. A reconciliation of these non-IFRS financial measures to the nearest IFRS measures is included in this presentation. Now, I will hand over the call to Virgilio Gibbon, Afya's CEO, beginning with Slide 4.

Virgilio Gibbon, CEO

Thank you, Renata, and thanks, everyone for joining us today. I’m very pleased to report strong first quarter 2021 results, continuing the positive trend of 2020 and also reflecting the successful execution of our strategic initiatives. We continue to deliver a combination for a strong and predictable world with high profitability and cash generation. But before we go through our financial highlights in detail, I would like to present our last acquisition. We are very excited and honored to announce the UNIGRANRIO acquisition to enter definitively in Rio de Janeiro. This acquisition is a milestone for Afya. Considering the 308 seats from UNIGRANRIO, we will reach 1,159 seats acquired in less than two years, over-delivering our guidance released during the IPO. After concluding the deals, this 308 authorized seats, translating to 2,280 students at maturity, represents an embedded growth of 25%, considering the current medical student base of 1,800 today. Including UNIGRANRIO, our total medical students at maturity is expected to reach 1,880 students, representing a CAGR of 9% from 2020 to 2026. Health science-related courses are an important share of our business as well, with more than 5,700 students. In three years, Afya's continuing education offering 806 health-related graduate students will be integrated into our student base. I would also like to highlight the prestigious brand and the great academic quality of the institution. UNIGRANRIO has the highest quality score among all for-profit universities and university centers in the state of Rio de Janeiro, with a solid IGC continuous of 3.16. Moving to the next slide to talk about synergies in this transaction. Today, UNIGRANRIO has 1,800 medical students, which represents an embedded growth of 25% and 2,200 medical students at maturity. We will ensure 100% of the occupancy. This large health ecosystem is a fertile opportunity to offer Afya's digital medical services and cross-sell continuing medical education programs, leveraging the lifetime value of each student. The integration will be migrated to our shared services center. In our career plan and medical curriculum, it will also be implemented, generating synergies already proven in past acquisitions. UNIGRANRIO also has distance learning expertise with 79 distance learning centers and maximum quality score evaluation. All of these footprints and capabilities will be applied to improve the margins of Afya's ex-health undergrad courses, graded on campus with traditional students who are moving toward a more hybrid learning process. In terms of net revenues, UNIGRANRIO reported R$263 million in 2020, of which 49% comes from medical courses and 68% also consider health-related products. At maturity in 2023, net revenue is expected to reach R$343 million, a 71% in medical courses and 85% in health-related products. The maturation of these transactions is very accretive, with an expected EV/EBITDA of 4.1x. The aggregate purchase price is R$700 million, with a payment structure as follows: 60% paid in cash upon closing of the transaction. The remaining 40% is payable in cash in four equal installments through 2024, adjusted for CDI rate. There are 82 additional seats still pending approval. If approved, they will result in a potential earn-out structured as follows: R$1.1 million per seat if approval is granted in the first year after acquisition, R$1 million per seat if approval is granted in the second year after acquisition, and R$900,000 if approval is granted in the third year after acquisition. To get more information about this acquisition, I invite you all to see the presentation on our Investor Relations website. Now moving to the next page, we will discuss the highlights for this quarter. First, I would like to reinforce that we will start in this quarter to segregate our results into three business units: undergraduate, which used to be called BU1, comprised of undergraduate medical courses, health science, and other products; continuing education, comprised of specialization in graduate courses; and digital services, which includes all services and products that compose the six pillars upon which our strategy is based: Content & Technology for medical education, Clinical Decision Software, Practice Management Tools & Electronic Medical Records, Physician-Patient Relationship, Telemedicine, and Digital Prescription. I'm pleased to report that we have concluded another two acquisitions to enhance our digital services. At the end of January, we closed the acquisition of iClinic, a practice management software. This acquisition consolidates our position in practice management, telemedicine, and digital prescription pillars. At the end of the quarter, we also announced the acquisition of Medicinae, a healthcare technology company specialized in healthcare payments and financial services. Moving on the chart, we will highlight our results. Starting with our top line, adjusted net revenue grew 48% year-over-year, reaching R$403 million in the first quarter due to the consolidation of acquired companies, by the maturation of medical school seats, and the expansion of active paying users in digital services. Adjusted EBITDA also increased 48% in the same period, reflecting the synergies extracted from these acquisitions. Adjusted net income was up 22% year-over-year, reaching R$160 million. Total growth was partially offset by lower financial results due to three reasons: the increase in loans and financing to R$530 million, an exchange rate depreciation between the Brazilian Real and U.S. dollars of 11% from December 2020 to March 2021, combined with 29% exchange depreciation rates between the Brazilian Real and U.S. dollars from December 2018 to March 2020. This increased the financial results at the time due to our position in U.S. dollars. Lastly, lower income from financial investments due to the increase in Brazilian interest rates, CDI, and a lower cash position. Cash conversion reached 103% in the first quarter of 2021, with a solid cash position of R$966 million, slightly lower than in 2020 due to payments to selling shareholders. It's worth recognizing our collection process; even considering the more flexible renegotiation policy adopted in 2020 because of COVID, our cash conversion ratio was 22 percentage points above last year's same period. The number of medical students was up 62% due to the consolidation of acquisitions and the maturation of medical seats. Without considering acquisitions, the number of medical students increased by 22%, reflecting only the maturation of current students. Moving to the next page, we will discuss the guidance issued for the first half of 2021. During our last earnings results for the full year 2020, we issued guidance on net revenue and EBITDA margin for the first semester of 2021. Net revenue is expected to be between R$740 million and R$780 million, and EBITDA margin is expected to be between 46% and 48%. Excluding any acquisition that may be concluded during this guidance period. For instance, when if mark is not being considered, we expect to conclude this operation in June 2021. We are on track to achieve our guidance with the first quarter results. Reported net revenue for the quarter was R$403 million, achieving 53% of the middle guidance. In terms of adjusted EBITDA, we achieved 60% of the middle guidance, with an adjusted EBITDA margin of 52% for the quarter. These strong results stem from a combination of medical school seats, average seat maturation, distribution of digital services to our ecosystem, and successfully concluded acquisitions. I will now turn the call over to Luis, who will detail our financial results.

Luis Andre Blanco, CFO

Thank you, Virgilio, and good morning, everyone. Turning to the next slide to discuss the financial highlights of the first quarter 2021. I'm pleased to present the high growth track records that we were able to achieve in the last three years. Since 2019, we saw a strong trend in all key metrics. Adjusted net revenues for the year were up 48% year-over-year to R$403 million, reflecting acquisitions and organic growth. Excluding the acquisitions, net revenue grew by 11% year-over-year, reaching R$301 million. Such increase was primarily driven by the maturation of medical school seats and an increase in the average ticket. In terms of adjusted EBITDA, we almost tripled our result in just two years, reaching R$208 million, representing 48% growth year-over-year. EBITDA margin remained flat compared to the first quarter of last year, reflecting higher EBITDA margins of integrated companies that were offset by lower margins of recently acquired companies. Adjusted net income was up 22% year-over-year, reaching R$160 million, partially offset by the reasons mentioned by Virgilio. Our EPS increased by 6%, reaching R$1.16 per share. Cash flow generation remained strong in the three-month period, increasing by 81% to R$194 million, which resulted in a cash conversion ratio of 103% compared to 81% in the same period of 2020. Moving on to the next page for a discussion of key metrics by business unit, starting with Undergrad. Operating medical seats increased by 25% year-over-year to 1,900 operational seats. Medical students were up 62%, reaching a base of almost 13,000 students, reflecting medical seats maturation and acquisitions. Our average monthly medical tuition fees were up 6% compared to the first quarter of 2020, reaching R$8,700 excluding acquisitions. This reflects a combination of new students enrolling with a higher tuition rate combined with students graduating with a lower tuition rate. Talking about revenue mix, 80% of our combined tuition fees are derived from medical school, up from 77% in the same period of the prior year. In terms of total tuition fees, we reached R$414 million, up from R$252 million, an increase of 64% year-over-year. On the next page, we have continuing education metrics. We saw a 30% decrease in net revenue due to a reduction in paid students, primarily driven by practical problems that are not being offered since August 2020, which represents an impact of R$7.9 million in net revenues and physicians' decision to postpone the intake in specialization courses due to the COVID-19 pandemic. Although with the combination of the opening of six new campuses in 2021, and expanding the specialization portfolio, we have a strong intake process that started in the second quarter. IPEMED reached 1,800 students in April 2021. Going to the next slide, I will discuss digital service metrics. From the first graphic, you can see our active paying users per pillar. Those are their active subscribers that generate revenues. Medcel active paying students grew by 50% year-over-year. Clinical management tools reported a subscriber base of more than 13,000 users, and clinical-decision software of more than 110,000 active users. We have a great opportunity here to distribute our products in this ecosystem. This result is reflected in a 48% increase in digital service net revenue. The last graph on the page shows that the monthly active users reached 221,000 students and physicians all over Brazil. These accounts for approximately 30% of the market of medical students and doctors in Brazil. Moving to the next page, I will discuss in more detail the net revenue and EBITDA growth. We saw a 48% increase in net revenue year-over-year, of which 78% is coming from the consolidation of acquired companies. On the right side of the page, we show the bridge of adjusted EBITDA for the first quarter 2021. During this period, adjusted EBITDA also increased 48% year-over-year to R$208 million with high margin as we presented in the past years. 75% of the increase comes from acquisitions and the other 25% comes from the synergies extracted from acquired companies that we have integrated into our systems and increased occupations of medical usage to 100% and the implementations of our career plan and integrated curriculum. Moving next to discuss cash and net debt position. Cash and cash equivalents of R$966 million at the quarter end were 8% lower than in 2020, reflecting the payment of acquired companies. This cash position does not consider the closing of the Softbank operation, which was closed this quarter. The total net debt was R$230 million in the first quarter of 2021, up from R$167 million in 2020. Considering digital acquisition batches that were closed subsequent to the quarter end and UNIFIPMOC and UNIGRANRIO acquisitions that were already signed but not closed, our pro forma net debt would reach R$1.3 billion. I will now open the conference for the Q&A session. Thank you.

Gabriel Martinez, Analyst

Hi, everyone. Do you hear me well? Hello, can you hear me?

Operator, Operator

Yes, we can.

Virgilio Gibbon, CEO

Yes.

Gabriel Martinez, Analyst

Okay. Thank you very much for the call. We have two questions here regarding UNIGRANRIO. So the first one is regarding their distance learning operation, which is very robust, as you're pointing out. And we would like to see what's your plan on this business in terms of how can you extract the synergies and perhaps increase the amount of distance learning in your non-health operations based on their expertise? This would be the first question. And the second question is regarding the potential for ticket increases at UNIGRANRIO. How do you see that and what levels of tickets are nowadays? And also if you're thinking of creating new campus units at UNIGRANRIO level which are related only to medicine? So these were our questions. Thank you.

Virgilio Gibbon, CEO

Hi, Gabriel. This is Virgilio. Thank you for your question. Regarding your first inquiry about distance learning, we plan to leverage the expertise from UNIGRANRIO to enhance our Afya distance learning platform and use it to support on-campus or migrate on-campus ex-health programs. This presents significant opportunities for us to provide health operations for these programs and to improve margins for recent and future acquisitions. It will also assist us with integration after acquiring any new medical schools with additional programs. Currently, the average tuition for UNIGRANRIO medical programs is approximately R$8,500. There is still potential for growth in enrollments and tuition rates. For first-year students, tuition is around R$10,000, allowing us the chance to increase cohort tuition over the next three to five years. We have opportunities to improve tuition as the cohorts mature. Concerning campus locations, we have three main campuses; the largest is in [indiscernible], the second is in [indiscernible], and the third is in [indiscernible], where we operate fully in health with a new medical school that is still developing. We are currently assessing the market potential of all campuses. Additionally, we have a campus in the north of the state that might present an opportunity to consolidate due to its small operation and adapt the on-campus programs to the distance learning platform. It is still too early to make definitive assessments, but there is potential to manage the locations of those campuses effectively.

Gabriel Martinez, Analyst

Thank you, Virgilio. Very clear.

Operator, Operator

Thank you, Gabriel. So our next question is from Caio from Morgan Stanley.

Caio Moscardini, Analyst

Hi. Good morning, everyone. Can you guys hear me?

Operator, Operator

Yes. Perfect.

Caio Moscardini, Analyst

Yes, so great. So my question is regarding the expected margin at maturity, which would be around 50%. Is it really feasible to arrive at those margins, especially in a very competitive market, like Rio de Janeiro that has very big players? So I was wondering what are the drivers that should lead to this very strong margin expansion?

Luis Andre Blanco, CFO

Hi, Caio. It’s Luis speaking. When we make these projections for Rio de Janeiro, we've reached the maturations portions of Medicinae revenues to the total coming around 70%. 15% of that coming from other health programs. If we compare this kind of profile with institutions that we have in our portfolio that have the same profile, we are confident that we can achieve this kind of margins. And even though that's a very competitive market, most of the revenues come from the Medicinae business on the maturations. We see that we can have this ticket like we just settled to around R$10,000 approximately as the ticket for new students. So we are pretty confident that implementing the playbook of synergies that we have in place enables us to reach these kinds of margins by 2023.

Virgilio Gibbon, CEO

Yes, if I may add here, Caio, our more mature schools operate with a very much higher margin than 50%, contribution margin for these medical schools operating above 55% and some of them above 60% of contribution margin. So when you compare and conduct an internal benchmark of the portfolio for 80% in maturation coming from health education, with more than 60% coming from medical programs, we have a very good view of what we can reach in terms of margins. So 50% in a city like Rio de Janeiro, with one of the highest tuition rates that we have, is feasible, considering that new students are enrolling for almost R$10,000 as their initial tuition. We are very confident about reaching this contribution margin in UNIGRANRIO in three years.

Caio Moscardini, Analyst

All right. Thank you, guys. Appreciate it.

Operator, Operator

Okay. Next question comes from Vitor Tomita from Goldman Sachs. You can go on, Vitor.

Vitor Tomita, Analyst

Thank you. Thank you all for taking our questions. So our first question would be what do you believe could be the main challenges in integrating such a large asset as UNIGRANRIO? And do you anticipate any potential operations in rolling out Afya's curriculum into UNIGRANRIO? And our second question, also related to UNIGRANRIO, is whether this acquisition could change the focus of overall M&A strategy, namely, if you are now more likely, at least in the near-term, to focus more on smaller targets or on digital solutions. Thank you.

Virgilio Gibbon, CEO

Hi, Vitor. Thanks for your question. In terms of M&A, for sure, it will be the most complex acquisition in terms of integration, where we expect full integration between 12 to 18 months from now after closing this deal, which we expect in the next few months. First of all, our curriculum will be available to the entire UNIGRANRIO community. I think there's a lot of enhancement that we can implement there in terms of technology and all digital services that we plug into our curriculum to help during the learning process for the first of the six years. There are a lot of plug-ins that create win-win scenarios in terms of curriculum for the medical programs. I don't think there will be resistance to that. Regarding other health programs, there's definitely something that we can also integrate with our curriculum here as they have lots of expertise in health programs. The Dentistry program is very traditional in Rio de Janeiro, as well as some graduate programs in the health areas that we will leverage from our professor portfolio in terms of doctors and experts in our operation. So it will be a very careful integration over the long term. On the first wave, we will focus on integrating our medical curriculum and also all the enhancements that we can plug into the entire student base. In terms of focus on digital opportunities, we have organized our M&A area into two avenues. One is completely dedicated to analyzing all the digital service opportunities, and the other focuses on leveraging medical school opportunities. So we are pursuing both in parallel. This does not hinder our strategy in terms of opportunity costs or reducing the speed at which we keep attracting new tech companies to our operations.

Luis Andre Blanco, CFO

Thank you, Virgilio. Thank you, Vitor, for your questions. To add a bit more detail to what Virgilio just said, first of all, we are very glad that we've achieved and surpassed the goals that we provided to the market regarding the use of proceeds in our IPO. We now have 1,159 seats within our portfolio. That being said, regarding undergrad opportunities, we will continue to grow the market. We see that it’s very accretive for us to keep acquiring institutions that have a portfolio for medicine that is over 6% at maturation. So we see much value in that. We have a very fertile pipeline for undergrads, and with guidance, from 2022, we plan to add more than 200 seats per year. Regarding digital services, we have the six pillars of strategy in place. We aim to fulfill all of them with our services to empower physicians in their careers. We are continuing to talk to health tech providers to identify the best entrepreneurs and services we can integrate into our portfolio. The acquisition of UNIGRANRIO does not alter in any way our strategy. We remain aligned with what we have communicated concerning the size and profile of the companies we consider, while also focusing on expanding our digital services.

Vitor Tomita, Analyst

Very clear, thank you both.

Operator, Operator

Okay. So our next question comes from Cepeda from CS. Cepeda, you can go now.

Mauricio Cepeda, Analyst

Can you hear me?

Operator, Operator

Yes.

Mauricio Cepeda, Analyst

Okay, thank you. Thank you for the time, for the questions. Just one question. We see that the acquisition of UNIGRANRIO was, of course, a very large acquisition, a distinctive milestone in your history. And thank you for showing the pro forma net debt. My question is about whether you intend to pursue more capital in the short term, so you can accelerate the acquisitions, specifically of Medicinae schools? Or are you willing to consolidate a bit more the undergrad business before going for more acquisitions and concentrate on the tech business? Thank you.

Luis Andre Blanco, CFO

Hi, Cepeda, it's Luis here. Thank you for your questions. Regarding the capital strategy, it's important to remember that we generate a lot of cash, even in these difficult times. The adjusted cash flow generation was over 100% due to our successful policy of learning that we implemented during COVID that proved to be very strong. This provided strong cash flow generation in the first quarter. Second, this number does not reflect in the net debt position. The operations we achieved with Softbank as net debt will provide us with cash flows of over R$800 million in May. So we have, based on that, a very strong cash flow and cash position. It’s also important to highlight that we've negotiated a seller's financing with this new offer, UNIGRANRIO, where we paid 60% at the close and the remaining 40% we will pay through sellers financing in the coming years. So we are continuing to pursue targets in various segments.

Mauricio Cepeda, Analyst

Very clear. Thank you.

Operator, Operator

So just to remember, if you want to ask a question, just raise your hand. The last question comes from Lucca Brendim from Bradesco. You can now go, Luca.

Lucca Brendim, Analyst

Okay. Can you hear me?

Operator, Operator

Yes.

Lucca Brendim, Analyst

Okay. So my question is regarding the continuing education. We saw in the first quarter that it was impacted by physicians' decision to postpone enrollments. So my question is, should we see a positive effect from pent-up demand going forward in the segment? If so, what’s the magnitude of this impact? And when should we start to see this? Thank you.

Virgilio Gibbon, CEO

Thank you, Luca. That's an important point. In 2020, we had a significant impact due to the practical programs for graduate students. Therefore, the second-half intake was very low. This had an impact on the rhythm of net revenue recognition in this first quarter. That impact accounted for around R$8 million when you compare to the same period last year. However, on the other hand, these practical classes resumed this year. The intake we closed at the end of April was quite strong, as we announced during the Afya Day. We enrolled more than twice the volume of students compared to last year during the same period. So the student base has now passed the inflection point, and we will start seeing this result in the second half. You will still see some reduction in the second quarter, but we expect strong growth for this line in the second half, and anticipate very aggressive growth in the following semesters. We just launched eight units this year. Last year, we only had five. Now we are operating with 11, and in the second half, we expect to reach 13 centers distributing our graduate programs. Additionally, in terms of programs, we had 16 last year, and now we have more than 60 being offered through all of these centers. There’s a huge opportunity to leverage this operation and achieve a very good growth rate. It's also worth noting that in this quarter, we are seeing digital services growing rapidly. Not only because of the acquisition but organically, as we showed Medcel results, which reflect a 15% year-over-year organic growth. For the second half, when we start integrating Medcel, IPEMED, and other healthcare companies, we anticipate a 20% MRR increase above the second half of last year due to the number of doctors enrolling in our platforms. This will be significant for future forecasts regarding digital services.

Lucca Brendim, Analyst

Okay, very clear. Thank you.

Operator, Operator

Okay. So we've received a question in our chat. It is, do you have an EBITDA guidance for the year of 2021? Could you provide an EBITDA breakdown between the business units? So we have guidance that's quite semestered. We release guidance each second quarter and fourth quarter for the following semester. For this first semester, it is R$740 million to R$780 million of net revenue, and EBITDA margin from 46% to 48%. Regarding the EBITDA margin for each business segment, we do not disclose this information. But we can provide you a better understanding if needed. Please follow up with us and send me an email at investor relations.afya.com.br. Okay? I think that we do not have any more questions. I want to thank you all for participating today. Please feel free to contact us if you still have any doubts. Have a nice day.