Earnings Call Transcript - AFYA Q2 2022

Operator, Operator

Thank you for joining us for Afya’s Second Quarter 2022 Conference Call. Today I’m here with Afya’s CEO, Virgilio Gibbon, and Luis André Blanco, our CFO. During this presentation, our executives will make forward-looking statements. Forward-looking statements can be related to future events, future financial or operating performance, known and unknown risks, uncertainties, and other factors that may cause Afya’s actual results to differ materially from those contemplated by these forward-looking statements. Forward-looking statements in this presentation include, but are not limited to, statements related to the business and financial performance, expectations and guidance for future periods, or expectations regarding the company’s strategic product initiatives, its related benefits, and our expectations regarding the market as well as the potential impact from COVID-19. These risks include those more fully described in our filings with the Securities and Exchange Commission. The forward-looking statements in this presentation are based on the information available to us as of the date hereof. You should not rely on them as predictions of future events, and we disclaim any obligation to update any forward-looking statements except as required by law. In addition, management may reference non-IFRS financial measures on this call. These measures are not intended to be considered in isolation or as a substitute for the results prepared in accordance with the IFRS. This presentation has reconciled these non-IFRS financial measures to the most directly comparable IFRS financial measures. Let me now turn the call over to Virgilio Gibbon, Afya’s CEO, starting with Slide number 3.

Virgilio Gibbon, CEO

Thank you, Ana, and thanks everyone for joining us today. Before starting, I would like to thank our IR team for the incredible work to prepare our second quarter release and to congratulate Renata Couto, our Head of IR, for the birth of her first daughter, Maria, this month. For us in Afya, this quarter’s results reinforce that our strategy has been successful, marked by the consistent growth of our operational and financial results. Once again, we are proud to present the strong execution of our unique business model, combining high growth, profitability in all lines and cash generation, proving its resilience. During this call, I will run through four main topics: Firstly, I will present our financial and operational highlights of the quarter, demonstrating our strong performance in all business units. Secondly, I will reinforce our 2022 disclosed guidance with expectations of another round of growth results in the second half. Thirdly, I will highlight our business expansion, pointing out the opening of important new campuses and acquisitions. And, last but not least, on our fourth topic, I will show how our commitment to everything we do is being well reflected through awards and public recognition. So, moving now to page number 4, let’s start with our quarter highlights. Adjusted net revenue increased 51% year-over-year, reaching R$576.1 million, followed by an adjusted EBITDA growth of more than 37% year-over-year, reaching R$220.2 million with a margin of 38.2%. One of the major highlights of the quarter is the net income growth, followed by a relevant jump in EPS. Net income reached R$106.1 million, a growth of more than 383% year-over-year, with an EPS of R$1.12, more than six times higher than last year, even considering a higher net debt level and the current market interest rate. This result reaffirms Afya’s great operational results, capital allocation discipline on buybacks and M&A, and the efficient capital structure. We also reported another great cash flow generation, ending the semester with R$450 million, 31% higher than last year. Moving now to the operational updates of the quarter, our undergrad medical students reached more than 17.5 thousand, representing a 31% growth compared to the same period last year. Approved seats grew by almost 20% also during the same period. This result confirms our growth strategy that combines organic expansion with our capacity to acquire, consolidate and integrate new seats into the company’s operation. In this quarter, we can gladly see Continuing Education taking off after the pandemic impacts on practical classes, presenting a strong revenue growth of more than 47% year-over-year. We will further explore the Continuing Education expansion in the slides ahead. Also, we are happy to say that Afya reported great results on the digital health services revenue, which ended the quarter with an increase of almost 50% year-over-year, and more than 20% excluding acquisitions, reversing the trend observed in the first quarter. This result is the first glimpse of the great opportunity ahead in Digital Services and it is explained by the strong ramp-up on B2B engagements, reaching more than 37 contracts with more than 20 pharmaceutical industry companies, and the continuing ramp-up on B2P contracts. Our ecosystem reached almost 265,000 active users, a growth of 13.6% year-over-year. This represents around 35% of the Brazilian physicians and medical students’ market. Moving to slide number 5, the conclusion of another cycle of medical student enrollment ensuring 100% of occupancy for the second half, added to the positive trend in continuing education and the recovery of digital services in this quarter, enabled us to reaffirm our guidance for the entire year of 2022. This first half result shows that Afya has achieved around 50% of adjusted net revenue and EBITDA median guidance and is moving fast to deliver another strong year of great operational performance. In the next slide, we will talk about how our business expansion continues to skyrocket, with relevant updates also on this quarter. After the opening of several new IPEMED campuses, all of them in relevant capitals of Brazil, we can gladly highlight the successful start of four new Mais Médicos campuses, along with Ji-Paraná Medical School and the opening of our brand new Unigranrio campus, representing the new seeds for our high and predictable growth. Besides these significant accomplishments in Undergrad and Continuing Education, it is important to point out another important achievement: the fulfillment of our 6-pillar digital services strategy after our two last acquisitions, Cardiopapers and Glic, both closed in May. This first half result added to recent investments reinforced Afya’s strategy of combining organic and inorganic expansion with a strong capital allocation discipline that will boost our long-term growth combined with profitability and cash generation. And now, moving to my last slide in this presentation, I will show how our commitment to everything we do is being well reflected through our awards and public recognition. As a reflection of our great results and actions that are being shown to the market, we are proud to share that, on the most recent Institutional Investor award, an independent survey of evaluation and market perception of Investor Relations programs, regarding the Latin American Executive Team, we were very well-placed and evaluated in several categories in the sector in which we operate, including Best Analyst Day of our Afya Day, Best IR Program, Best ESG Program, among others. Another proud announcement is Afya’s great results on 2022 Valor Inovação Brasil: In the Education segment, we jumped from 5th place to 2nd place this year, and considering all companies in the country, we are now listed in the 78th position. This result reflects Afya’s efforts to make innovation the central engine of a robust ecosystem that integrates the entire physician’s journey. You can find more information regarding these awards on the QR Codes at the bottom of the slides. Now, I will turn the call over to Luis Blanco, Afya’s CFO, to give more color on the financial and operational metrics. Thank you.

Luis André Blanco, CFO

Thank you, Virgilio, and good evening everyone. Moving to slide number 9 to discuss the financial highlights of the second quarter, it is with much satisfaction that I present another strong quarter of results for Afya. Adjusted net revenue for the quarter was up 51% year-over-year to R$576 million, reflecting the maturation of medical seats, higher tickets in Medicine courses, the Continuing Education recovery, the Digital Services rebound, and the consolidation of acquisitions. It is important to mention that, this quarter the Company recovered R$22.1 million of the mandatory discounts on tuition fees previously granted by legal proceedings related to COVID-19. As in 2020 and 2021 we excluded these mandatory discounts from adjusted net revenue; the recovery of these amounts is not counted for adjusted net revenue in 2022. For the six-month period, adjusted net revenue was R$1.144 million, an increase of 46% over the same period of last year. Adjusted EBITDA for this quarter increased 37% to R$220 million, while the adjusted EBITDA margin decreased 390 basis points to 38.2%. For the six-month period, adjusted EBITDA was R$491 million, an increase of 33.3% over the same period of the prior year, with an adjusted EBITDA margin decrease of 410 basis points in the same period. The adjusted EBITDA margin reduction is due to the digital segment, mostly in the performance of Medcel in the residency preparatory market, the expansion of the continuing education segment, which is still maturing the new campuses, and the increase in expenses at the holding and shared services level. Adjusted cash flow generation for the semester was more than 31% higher year-over-year, totaling R$450 million, resulting in a strong cash conversion ratio of 91%. Adjusted net income for the second quarter of 2022 was R$119 million, an increase of 83% over the same period of the prior year. Net income results were positively affected by the increase in operational results and the reduction of financial expenses, mainly due to the FX rate difference regarding the Softbank transaction that affected us in the second quarter 2021. Moving to slide number 11 for a discussion of key operational metrics by business unit, starting with the Undergrad Programs, our number of medical students grew 31% year-over-year, reaching more than 17.5 thousand students, with approved medical seats increasing almost 20% year-over-year to 2,759 approved seats. Considering additional organic and inorganic seats expectations, we expect to achieve more than 32,000 undergrad medical students at maturity. With our net average ticket increasing almost 9% year-over-year, we’ve reached R$1,310 million of Combined Tuition Fees, up from R$843 million from the prior year, an increase of 55%. Regarding revenue mix, 77% of these are derived from medical school students and 90% from health-related courses. On the next page, I will present our Continuing Education metrics. As said before, we saw another quarterly great recovery in our Continuing Education segment, which reported a strong intake process, increasing the number of students by 8% year-over-year. In the quarter, net revenues grew almost 50% when compared to the same period of the prior year. This recovery is due to the better performance of IPEMED, mainly related to the ramp-up of the new campuses and the interruption of the effects of the COVID-19 pandemic. Moving to slide number 13, I will discuss the Digital Services operational metrics. On the first graph, you can see our total active payers, which are the ones that generate revenue in B2P. With a continuous growth trend, so far in this quarter we have reached 191,000 paying users. As you can see in the second graph, our ecosystem reached almost 265,000 monthly active users, representing around 35% of all medical students and physicians in Brazil, as Virgilio previously said. And finally, on our last graph, we can see our Digital Services’ net revenue, which increased more than 50% year-over-year, and more than 20% excluding acquisitions. This organic growth is a combination of the start of the B2B engagements and the expansion of the active payers in the B2P, mainly in Whitebook and iClinic. In addition, since last quarter, we started to break down our Digital Service’s net revenue within B2P and B2B segments. So, from the R$42 million of Digital Service’s net revenue in the second quarter, almost R$38 million came from B2P, and more than R$4 million came from B2B, since the B2B strategy is still at the beginning. And now, moving to my last two slides, I will discuss our cash and net debt position, also giving more color on our cost of debts. Cash and cash equivalents at the end of the quarter were R$616 million. Net debt totaled R$1.483 million, compared to a net debt of R$583 million in the same period in 2021. The increase year-over-year was mainly due to seven business combinations and license acquisitions executed during the last 12-month period, payments related to the shares repurchase program, and investment activities, partially offset by our strong cash flow generation. On the next slide, you can see a table with the breakdown of our gross debt and our average cost of debt, considering our main sources of debts; Softbank transaction, other loans and financings, and accounts payable to selling shareholders. Our capital structure remained solid with a conservative leveraging position and a low cost of debt. This ends our prepared remarks. I will now open the conference for the Q&A session, thank you.

Operator, Operator

The first question comes from Vinicius Figueiredo from Itau BBA. Vinicius, please go ahead.

Vinicius Figueiredo, Analyst

Good evening everyone. Thanks for taking my question. You mentioned during the earnings release that the EBITDA margin was affected by the performance of Medcel, but also the expansion of Continuing Education and especially in the contribution of Continuing Education and the sales mix, the increasing holding expenses, would it be possible for us to try to quantify how much each of those factors contributed to the reduction in margins? And also if you could give us an update on the measures that the company has taken in Medcel to normalize the growth in the degree? Thanks.

Virgilio Gibbon, CEO

Vinicius, this is Virgilio. I can take your question here and Blanco can add something after. So I think that the impact on margin was split by 50% of each business unit, Continuing Education and Digital Services related to Medcel impact. On Continuing Education, remember that we launched seven new campuses, so they had just started the maturation. So we have a few students for each campus. So the gross margins are lower than we expect in the future. But moving forward, we expect to leverage this operation and start getting important points of efficiency on the P&L from the Continuing Education for the next semesters. On the Digital Services, we still have the impact from Medcel, but combining all the offers, all the pillars that we have, we are seeing the second half bringing better gross profit, gross margin coming from Digital Services and moving forward, we expect Medcel to start launching the new products and also improving their results when compared to last year after September; that’s when we launched the new version of Medcel products for the following year. So we still have an impact in the second half coming from Digital Services in terms of margin because of Medcel. But I think we hit the bottom line and now we start to leverage the operation and all the other pillars will become even more relevant in the following quarters, diluting this effect and also having the new collection effect that will be launched in September improving margins moving forward.

Luis André Blanco, CFO

Yes, and Vinicius if I may add something to what Virgilio said, that aligns with our expectations that we provided in the guidance. So when we issued the guidance during the first quarter results, we have these feels on that. So we are pretty much aligned with the guidance that we provided for 2022.

Vinicius Figueiredo, Analyst

Perfect, very clear. Thanks, Virgilio, and thanks, Blanco.

Operator, Operator

Thank you, Vinicius. Our next question comes from Mauricio Cepeda from Credit Suisse. Mauricio, you may talk, please.

Mauricio Cepeda, Analyst

Hi, Virgilio and hi Blanco. Thank you for the space here to ask questions. I have my first question about profitability. We were talking in the previous quarters about the impact from the integration of the new operations. So I would ask you if the new operations are still impacting profitability somehow; I would say the ones that were made, let’s say, one to two years ago, if they are still impacting margins and if the new digital businesses are also playing a certain role in profitability? And my second question is a little bit more related to the regulatory environments. We have seen there is a lot of debates around the authorization of medical courses, so I’m trying to discuss that legally as others are trying to go to the courts to get mandates, et cetera. So how do you position yourselves in this kind of situation? How are you prepared to face distinct scenarios from now on, both the one that keeps the current regulatory framework from Mais Medicos or eventually another pathway that may change the authorization to something more, let’s say market triggered? Thank you.

Virgilio Gibbon, CEO

Hi, Cepeda. So I will take both questions here and Blanco can help me. So first related to profitability, for the acquisitions that we concluded two to three years ago, I think all the integration processes and the synergies are very aligned with what we expected. Keep in mind the two big acquisitions last year that were UNIGRANRIO and UNIFIPMoc in Montes Claros City. All the integration processes are better than expected. You can see that when we combine these acquisitions with our total results; it’s also helping to improve margins because the margin coming from these two assets is higher than Digital Services and Continuing Education. So we extract a lot of value from these last acquisitions on BU1, our undergrad unit. On digital, I think it’s the more relevant impact in terms of margins related to acquisition since we concluded 11 acquisitions in the last two years in the digital side. So there’s a lot of initiatives taking place right now in terms of reorganization, how we can extract value from cross-selling, and optimizing the team, the commercial team, and the tech team. This is under discussion right now, and we expect on the digital side to start improving revenues at the same speed and even faster than we are seeing right now, helping us to dilute the G&A costs that are coming from these newly acquired tech companies. So this is the side on profitability related to your first question.

Mauricio Cepeda, Analyst

Thank you, that’s perfect, very clear. Thank you.

Operator, Operator

Thank you, Cepeda. Next question comes from Marcelo Santos from JPMorgan. Marcelo, you may talk please.

Marcelo Santos, Analyst

Hi, good evening. Virgilio, Luis, and Ana, thank you for taking my questions. My first question is about tickets. What’s the outlook for the tickets of the students coming in the second half of the year? Are you managing to keep up with inflation? The second question is regarding the ramp up of IPEMED company; is that progressing as planned? When do you expect this operation to reach maturity? Thank you.

Virgilio Gibbon, CEO

I’m sorry, Marcelo. I didn’t get your second question.

Marcelo Santos, Analyst

It’s regarding the continued education, the IPEMED campus that you have launched seven units, right? I just wanted to understand when these operations should reach maturity and if it’s progressing as you expected in the business plan? Thank you.

Luis André Blanco, CFO

Marcelo, I will start with the first one regarding the tickets. Normally we don’t have a price increase in the second half. We have one or two units that we have that this back spread, but generally, we don’t have price increases in the second half. All the price increases are done at the beginning of the year. Okay? So you can’t expect the same trends, not adding much increase in pricing in the beginning of the second half.

Virgilio Gibbon, CEO

Yes, just to add on that, Marcelo, what we have as a ticket effect for the second half is the maturation effect as we are graduating the last year students and also enrolling new cohorts of higher tickets. So the maturation effect is quite positive for the second half. Then your second question about IPEMED maturation, we launched these new campuses between the first half; actually, it was in April, some of them, and most of them started in the second half, so it’s just beginning the operation. This is the first year. Remember, the duration of our graduate program specialization is between 2 to 2.5 years. So the full maturation, considering that we have a linear intake process, would be two years and a half. But having said that, what we have seen is much more awareness of our launching these new IPEMED campuses. The intake process is not only aligned with what we expect in the business plan but even higher for some cities that we are seeing a very positive acceptance of our offers, of our programs, and also for IPEMED brands over these 12 cities that we are operating right now.

Marcelo Santos, Analyst

Perfect. Thank you very much.

Virgilio Gibbon, CEO

Thank you, Marcelo.

Operator, Operator

Thank you, Marcelo. Next question comes from Yan Cesquim from BTG Pactual. Yan, go ahead please.

Yan Cesquim, Analyst

Good evening, everyone. Virgilio, Luis, and Ana, good evening. Just a technical question here about the adjustments in the net revenues related to the mandatory discounts in tuition fees granted during the pandemic. I just wanted to know if this is a reversion of the discounts that passed in your results during 2020 and 2021 that maybe helped your results, or if these adjustments are just to show what revenues would be year-over-year if we still had these mandatory discounts in this quarter? That’s it guys. Thank you.

Luis André Blanco, CFO

Hi, Yan, it’s Blanco speaking. It’s not just the adjustment itself. We accounted for this reverse of these discounts. We invoiced these 22 million for our students as we’ve received the clearance from the judge regarding this process. As we did consider these adjustments of this discount during 2020 and during 2021, where we had to invoice all the amounts and give these mandatory discounts. And we adjusted these for our adjusted net revenues proposal, as we are invoicing this amount of this reverse of these discounts, we exclude them from our adjusted net revenues. So we are being very, very aligned with what we did during 2020 and during 2021 excluding this additional invoicing that we’ve made in the second quarter in the adjusted net revenues. So if you see the accounted net revenues, you are going to see that accounted net revenue is above our adjusted net revenues.

Yan Cesquim, Analyst

Yes, that’s very clear. And do we expect to see more of these adjustments in the following quarters or is this all the adjustments, all the backward-looking adjustments?

Luis André Blanco, CFO

Yes, this is the main point regarding the significant discounts we have. We will follow the same process now that we have received clearance from the justice system to invoice these previously granted discounts again. Therefore, with this clearance, we will invoice these required discounts and charge our students once more.

Yan Cesquim, Analyst

All right, thank you very much, Luis.

Operator, Operator

Thank you, Yan. And if you have no more questions, I will turn the Q&A again to Virgilio for his closing remarks.

Virgilio Gibbon, CEO

Thank you. I think there are no more questions. Thank you, Ana. It was another half of great accomplishment and I couldn’t be more proud and optimistic about a new promising semester ahead. Thank you all for joining us today, and I hope to see you during our next investors meeting on the following earnings release. Thank you all and have a good night. Bye-bye.