Cango Inc. Q2 FY2021 Earnings Call

Good morning, and good evening, everyone. Welcome to Cango Inc.'s Second Quarter 2021 Earnings Conference Call. This call is also being broadcast live on the company's IR website. Joining us today are Mr. Jiayuan Lin, Chief Executive Officer; and Mr. Michael Zhang, Chief Financial Officer of the company. Following management's prepared remarks, we will conduct the Q&A session. Before we begin, I refer you to the safe harbor statement in the company's earnings release, which also applies to the conference call today as management will make forward-looking statements. With that said, I'm now turning the call over to Mr. Jiayuan Lin, CEO of Cango. Mr. Lin, the floor is yours, sir.

Good morning and good evening, everyone. Welcome to Cango's 2021 Q2 Earnings Call. In the first half of 2021, China's auto market, still recovering from the impact of the COVID-19 pandemic, faced renewal pressure due to the persistent global chip shortage. In the wake of this shortage, OEMs have had to slow down production, and dealers have slashed promotions, leading to a significant decline in car production and sales. The volatility in the automotive market stemming from uneven chip supplies is unlikely to ease in the short term and is widely expected to linger in the second half of 2021. Meanwhile, price increases in other key components and raw materials have further intensified cost pressure on OEMs and fueled uncertainty in their production plans. The chip shortage crisis will undoubtedly slow the recovery of the auto industry. Despite this, Cango's overall business remained stable in the second quarter. Total revenue came in at RMB 947 million. Thanks to investment gains from Li Auto, we realized a net income of RMB 558 million. Now I'd like to talk about our car trading transactions business. As the business at the core of our car transaction service platform, revenues from car trading transactions reached RMB 523 million in the second quarter, accounting for about 55.2% of total revenues, signaling its gradual evolution into an important growth driver. Car dealers are not only key links in the auto transaction value chain but also an important focus of our car trading transaction services. By integrating car sourcing, financing, insurance, and other aftermarket services, Cango empowers dealers and improves the efficiency of the industry as a whole. For consumers, purchasing cars will be much simpler and faster with more diversified and reliable supporting services, as well as an enhanced user experience. At the end of May 2021, we launched Cango Haoche, a B2B service platform for dealers. Cango Haoche integrates information with transactions, logistics, financing, and insurance to directly address the unmet needs of car dealers in the lower-tier markets. Thanks to more than 10 years of commitment, Cango has built up strong expertise in car financing and insurance services and a nationwide dealership network that covers over 40,000 dealers. Cango Haoche is a natural extension into the automotive transaction field. We aim to offer diversified and comprehensive products to further strengthen the bond between Cango and our dealers as well as to empower our dealers. In addition, we continue to develop the capabilities of our car transaction services platform. In terms of customer acquisition and services, in line with our long-term plan in the second quarter, we expanded our team of independent sales representatives, an important method to generate sales leads, to more than 13,000. Our sub-dealers grew to 581 as of June 30, 2021, further increasing our private traffic. Notably, we updated the web app of Cango Cheshenghuo on WeChat in the second quarter, offering a one-stop service that covers car purchases, car usage, and car maintenance. With Cango Haoche and Cango Cheshenghuo, we empower car dealers and serve car buyers. On supply chain operations, by the end of the second quarter, we have co-developed a total of 110 warehouses together with infrastructure service providers, covering 86 cities nationwide, further enhancing our warehouse properties. In Q2, revenues from aftermarket services facilitation were RMB 51.9 million, making a sizable contribution to the company's total revenues. Focusing on car insurance business and starting from the demand side, we recommended high-quality insurance purchase channels to car owners, covering a wide range of insurance products, including car insurance, non-car insurance, and health insurance. We continue to develop our direct sales team and established partnerships with more than 500 auto trade and maintenance operators. In the meantime, we continue to integrate our systems with those of insurance companies and launched the WeChat mini program for the product library. Going forward, we will further integrate more aftermarket services. Additionally, our key A-team continues partnership negotiations with several NEV, new energy vehicle makers. Pilots are expected to roll out in this third quarter. Finally, automotive financing facilitation, our main business line, also grew steadily in the second quarter. We facilitated new financing transactions for cars amounting to RMB 7.79 billion, up 57.5% year-on-year. Our automotive financing facilitation revenues were RMB 303 million, up 111% from RMB 144 million in the same period of last year. As of June 30, 2021, total outstanding balance of financing transactions facilitated by the company amounted to RMB 48.64 billion. Now turning to asset quality. As of June 30, 2021, due to changes in our stock product mix, the M1+ and M3+ overdue ratios rose slightly to 1.35% and 0.69%, respectively. Going forward, we plan to continue strengthening our risk management system and improve our risk identification and control capabilities. We remain confident in our overall asset quality. In terms of dealership network, we had 47,740 registered dealers as of June 30, 2021. Our channel mix and customer base have been further improved. Notably, despite the impact of the global chip shortage, our share in the high-end market segment has risen. As of June 30, 2021, we have covered more than 9,300 4S dealers, including about 500 luxury brand dealers such as major German luxury brands, including BMW, Mercedes, and Audi, and also Lexus. As NEVs are becoming more popular, the penetration rate of NEVs in China is expected to further increase. Meanwhile, in an effort to address the global climate change crisis, China has officially announced its carbon-emission peaking and neutrality goals for 2030 and 2060, respectively. The development of NEVs is key to achieving emission reduction targets in the transport sector. We have always believed in the future of NEVs, and our business model is highly consistent with that of NEV manufacturers. We are committed to supporting NEV makers to realize the last mile of their direct sales model by leveraging our extensive dealership network in the lower-tier markets. At present, Cango is Li Auto's nationwide service partner and also covers all of Tesla stores in Shanghai. We also work with XPeng, GAC new energy, and other NEV manufacturers on transactions, financing, insurance, and delivery services and so on. Looking ahead, we expect the global chip supply shortage in the auto industry and the impact from domestic financial regulatory changes to continue in the second half of 2021, which may create challenges for our business, but we will continue to execute our strategies and uphold our commitment to facilitating easy and enjoyable car purchase experiences. We remain dedicated to our goal of building an auto service platform of choice for consumers. Next, I will turn over to our CFO, Michael Zhang, to review our financial performance in more detail.

Thanks, Jiayuan, and hello, everyone, and welcome to our second-quarter 2021 earnings call. Before I start to review our financials, please note that unless otherwise stated, all numbers are in RMB terms and all percentage comparisons are on a year-over-year basis. Our second quarter financial performance was in line with our expectations. Total revenues came in at CNY 946.7 million, more than CNY 600 million from a year ago. Revenue from car trading transaction was CNY 522.5 million, continuing to serve as an important revenue contributor. Revenue from automotive financing facilitation and off-market services facilitation were CNY 303.3 million and CNY 51.9 million, respectively. While uncertainty stemming from global chip supply chain disruptions are ongoing, we remain committed to improving our operating efficiency while continually investing in the business to deliver more value to our dealers, partners, and users. Now let's move on to our costs and expenses during the quarter. Total operating costs and expenses in the second quarter of 2021 were CNY 933.5 million compared to CNY 207.4 million in the same period of 2020. This was mainly due to the related costs incurred by the car trading transaction business primarily as a result of the increase in revenue from car trading transactions. Sales and marketing expenses, general and administrative expenses, and research and development expenses each decreased as a percentage of total revenue in the second quarter of 2021 compared to the same period of 2020. Cost of revenue in the second quarter of 2021 increased to CNY 697.8 million from CNY 102.8 million in the same period of 2020. As a percentage of total revenue, cost of revenue in the second quarter of 2021 was 73.7% compared to 37.5% in the same period of 2020, and the change was primarily due to an increase in the amount of car trading transactions. For automotive financing facilitation and aftermarket services facilitation, cost of revenue as a percentage of relevant revenue was around 41.6% in the second quarter of 2021. Sales and marketing expenses in the second quarter of 2021 were CNY 60.9 million compared to CNY 42.4 million in the same period of 2020. As a percentage of total revenue, sales and marketing expenses in the second quarter of 2021 were 6.4% compared to 15.5% in the same period of 2020. General and administrative expenses in the second quarter of 2021 were CNY 64.7 million compared to CNY 66 million in the same period of 2020. As a percentage of total revenue, general and administrative expenses in the second quarter of 2021 were 6.8%, compared to 24.1% in the same period of 2020. Research and development expenses in the second quarter of 2021 were CNY 15.6 million compared to CNY 12.9 million in the same period of 2020. As a percentage of total revenues, research and development expenses in the second quarter of 2021 were 1.7% compared to 4.7% in the same period of 2020. Net loss on risk assurance liabilities in the second quarter of 2021 was CNY 35.9 million compared to a net gain of CNY 42.9 million in the same period of 2020. Net loss on risk assurance liabilities in the second quarter of 2021 was mainly due to an uptick in delinquent loan balance and default rate since the beginning of 2021. We recorded income from operations of CNY 13.2 million in the second quarter of 2021, compared to RMB 66.7 million in the same period of 2020. Due to the fair value change of the company's investments in Li Auto, net income in the second quarter of 2021 was CNY 557.7 million. Non-GAAP adjusted net income in the second quarter of 2021 was CNY 578.3 million. On a per-share basis, diluted net income per ADS in the second quarter of 2021 was CNY 3.75, and diluted non-GAAP adjusted net income per ADS in the same period was CNY 3.89. Moving on to our balance sheet. As of June 30, 2021, we had cash and cash equivalents of CNY 1.5 billion compared to CNY 1.6 billion as of March 31, 2021. As of June 30, 2021, the company had short-term investments of CNY 3.1 billion compared to CNY 2.6 billion as of March 31, 2021. Looking ahead to the third quarter of 2021, we expect our total revenue to be between CNY 700 million and CNY 750 million. Please note that this forecast reflects our current and preliminary view on the market and operational conditions, which are subject to change. This concludes our prepared remarks. Operator, we are now ready to take questions.

And the first question we have will come from Shelley Wang of Morgan Stanley.

I'm Shelley from Morgan Stanley. I have 3 questions. The first question is about your guidance for revenue in Q3, CNY 700 million to CNY 750 million. How much of that is from car trading transaction business? And could you comment on the impact of chip shortage on these numbers? And the second question is about the gross margin for car trading transactions. Did gross margin increase due to the chip supply shortage? And the third question is about some metrics of provision. That is, in Q1 and Q3, I noticed these metrics of risk assurance liabilities and also provisions. So could you comment on the trends of these 2 metrics in the future?

I will ask Michael Zhang, our CFO, to address your questions.

Thank you, Shelley, for your questions. Let me take your first question first. About our revenue guidance for Q3, in terms of contribution from car trading transactions to our Q3 revenue, we expect it to be about 55%, so basically in line with the development in Q2. In terms of absolute number for revenue guidance, we expect the car trading transactions to contribute about CNY 400 million to the total revenue. On the second part of your first question, the factors impacting our guidance for car trading transactions, well, I would like to answer this from 2 perspectives. Firstly, on the supply side, the chip supply shortage does have a big impact on our car trading transactions. And in Q3, we expect the shortage of car supply to have a significant impact. Also, we expect the car supply shortage to gradually cascade down from the 4S stores in Tier 1 and Tier 2 cities to non-4S stores in the lower-tier cities. So in fact, we expect a bigger impact on the lower-tier markets. In the first half, thanks to the historic stock of cars, we still enjoyed business growth in the first half. However, in Q3, we expect the car supply shortage to continue, and the impact will be more significant than in the first half of this year. Secondly, on the demand side, in Q2, the demand for new cars in lower-tier cities had been quite weak. This had a substantial impact on our small dealers, partners, as well as on our core financing transactions. To answer your second question on the gross margin of the car trading transaction business, the main factor impacting gross margin is the car models. For popular car models, the gross margin is typically lower because OEMs, when they price these popular car models, usually don't give a lot of room for negotiation. However, for unpopular car models, the gross margins could be higher. Thus, in terms of factors impacting gross margin of our car transaction business, it’s not about the chip shortage; it’s more about the car models. Another point is that on Cango's side, while the car trading transaction business is a new strategic business line for us and is still developing, we focus on popular car models to encourage the development of this new business and to better control risks and improve operational efficiency. We also offer smaller dealers attractive gross margins to help them drive up sales on their side. Overall, we maintain a stable and robust pricing strategy while ensuring that the current stock of cars will quickly be sold off; and that small dealers have attractive enough gross margins to stimulate their business growth. So overall speaking, the gross margin of the car trading transaction business line is steady.

On your third question about risk assurance liabilities and provisions, I would like to emphasize that, actually, in Q4 last year, in order to facilitate the innovation of our business models, we changed and upgraded our procedures and processes for some of our products, as well as the user experience. However, such measures and strategies had a negative impact on the overdue ratios of our assets. Since then, in Q1 this year, we also made strategic adjustments. Therefore, we expect that the negative impact on the current stock of assets will continue into Q3 this year. However, by the end of Q3, we expect the overdue ratios to improve.

Thank you for your questions.

And the next question will come from David Penn of Goldman Sachs.

First of all, congratulations to the management on their strong performance and progress in Q2 despite the challenges in the overall market. I have two or three questions. The first question is about the business performance of the auto loan facilitation business and the aftermarket business. In Q2, we noticed that revenue from the auto loan facilitation business almost doubled, while revenue from the aftermarket services remained flat. Could you provide more details on the reason for this performance? Also, can you share your outlook for future trends and the factors that will impact revenue performance going forward? The second question is about NEVs. In your presentation, you mentioned your partnerships with Li Auto, Tesla, and XPeng, along with other NEV makers. Could you elaborate on the types of services you offer to these NEV makers? How do these partnerships contribute to your financial performance, specifically in relation to revenue growth? Can you detail the specific impact on your car trading business line, auto loan facilitation business line, as well as the aftermarket service business line, respectively? Lastly, could you provide your outlook for Q3 and the second half of the year as a whole?

Okay. I will take your first 2 questions. The first question about the insurance, that is the aftermarket services business line. Because of the fee liberalization reform in the China market, the business models of insurance companies have seen drastic changes over the past time. For us, how to meet the new challenges and how to better partner with insurance companies and adapt to the new business models have been issues for us to address. That's why our insurance business hasn't been growing as we expected it to be. As for our partnership with NEV makers, including Li Auto, for our car financing transaction business, our system for Li's business is directly integrated into Li Auto’s sales app. For example, when a customer from Li Auto makes an order offline, the information is directly fed into our system, and we can provide the necessary services to the Li Auto customer service. The same principle applies to the car insurance business. For instance, we help liaise with local car insurance companies and then feed the information into Li Auto’s insurance business system to streamline the process. We also offer one-stop car insurance services as well. However, our partnership model with XPeng differs from that with Li Auto. With XPeng, we collect customer orders and relevant information in our system and then bulk purchase the cars from XPeng. In this process, we also provide financing products and insurance options to the customers.

Okay. We have no further questions at this time. I will hand the conference call back over to management for any closing remarks.

Thank you, everybody. That closes today’s earnings call.

And we thank you, ma'am, and the rest of the management team for your time today. Again, the conference call has now concluded. At this time, you may disconnect your lines. Thank you, everyone. Take care, and have a great day.