FinVolution Group Q2 FY2022 Earnings Call

Hello, ladies and gentlemen. Thank you for participating in the Second Quarter 2022 Earnings Conference Call for FinVolution Group. At this time, all participants are in listen-only mode. After management's prepared remarks, there will be a question-and-answer session. Today's conference call is being recorded. I will now turn the call over to your host, Jimmy Tan, Head of Investor Relations for the company. Jimmy, please go ahead.

Hello, everyone, and welcome to our second quarter 2022 earnings conference call. The company's results were issued via Newswire services earlier today and are posted online. You can download the earnings release and sign up for the company's email alerts by visiting the IR section of our website at ir.finvgroup.com. Mr. Feng Zhang, our Chief Executive Officer; and Mr. Jiayuan Xu, our Chief Financial Officer will start the call with their prepared remarks and conclude with a Q&A session. During this call, we will be referring to certain non-GAAP financial measures to review and assess our operating performance. These non-GAAP financial measures are not intended to be considered in isolation or as a substitute for the financial information prepared and presented in accordance with U.S. GAAP. For information about these non-GAAP measures and reconciliation to GAAP measures, please refer to our earnings press release. Before we continue, please note that today's discussion will contain forward-looking statements made under the Safe Harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements involve inherent risks and uncertainties. As such, the company results may be materially different from the views expressed today. Further information regarding these and other risks and uncertainties are included in the company's filings with the U.S. Securities and Exchange Commission. The company does not assume any obligation to update any forward-looking statements, except as required under applicable law. Finally, we post a slide presentation on our IR website providing details of our results for the quarter. I will now turn the call over to our CEO, Mr. Feng Zhang. Please go ahead, sir.

Thanks, Jimmy. Hello, everyone, and thank you for joining our earnings call. The second quarter of 2022 was a challenging quarter with Shanghai under COVID lockdown until June 1, 2022, and many other major cities also experienced varying degrees of lockdown or restricted mobility during the quarter. All these unprecedented challenges significantly affected China's economic growth and exerted additional pressure on certain aspects of our operations. However, we were able to navigate all these challenges and achieve better than expected results thanks to the experience and insight we have accumulated during our 15 years of operations. Consistent investments throughout our chain of technologies enabled most of our employees to conduct their work from home during the lockdown, minimizing disruptions to our operations. Also, our stable and capable senior management team with pragmatic goals, coupled with an in-depth understanding of the industry, seamlessly executed our decisive strategy despite minor obstacles. Together with the company's ongoing transition towards better quality borrowers in both domestic and international markets, coupled with our long-term goal of financial inclusion, these advantages further contributed to our growth momentum in this challenging quarter. Encouragingly, our total transaction volumes steadily increased for the ninth consecutive quarter to reach RMB41.5 billion, up 24% year-over-year and 4.5% on a sequential basis. Driven by our stable, better quality borrower base, we achieved a solid set of operational metrics despite weak macroeconomic conditions. The total number of unique borrowers in the quarter remained stable at around 3.1 million. Additionally, our total outstanding loan balance further extended to RMB56.4 billion as of June 30, 2022, representing year-over-year growth of 44% and a sequential growth of 5%. With respect to our strategic transition toward better quality borrowers, our proportion of Category A and B borrowers in the domestic market who meet our highest credit standards further expanded to 74% of our total borrowers in the second quarter compared to 68% in the previous quarter, and from 54% in the prior year period. Accordingly, our average borrowing interest rate further declined to around 24.2% in the second quarter. Passion for technological innovation is embedded in our DNA, driving us to pursue high quality innovation outcomes with the ultimate goal of serving the real economy and accelerating the digital transformation process. We leverage a host of cutting-edge proprietary technologies to maintain our growth momentum while stabilizing our credit risk performance. For instance, our Feng Chao platform automatically monitors the credit assessment process and risk control rules, accurately tracks data fields and swiftly evaluates the performance of these data sources, leading to a 120% increase in operational efficiency. Working hand-in-hand with the Feng Chao platform, our Ming Mirror fraud detection system provides visual network and fraud detection images, which can uncover up to 65% of intermediary fraud during the loan application process. Based on knowledge graphs, Ming Mirror comprises complex network computing, machine learning and carefully selected rule engine as well as over 2,000 models embedded with billions of relational data to effectively identify fraudulent activities. We have also implemented these technologies in our overseas markets, validating our technology's flexibility and transferability while strengthening our foothold in those countries. Supported by a prudent risk management framework with proven credit risk assessments and fraud detection technologies, we have maintained a stable risk level and overcome expected COVID-related issues while preparing for growth. Our day one delinquency rate remained stable at 5.5% in the second quarter of 2022 with a continuous stable trend into July. Our delinquency rate below 90 days showed signs of recovery, falling to 1.44% from 1.56% in the previous quarter. In addition, as the impact of the COVID-19 resurgence became more manageable, our second quarter vintage delinquency rate is expected to be around 2.4%. Finally, thanks to our loan collection team's impressive efforts as well as the easing of lockdowns across China, we have also seen an improvement in our loan collection recovery rate to 91% from 90% in the previous quarter. While maintaining our solid growth momentum, we continue to diversify our funding sources and the improved funding efficiency in the second quarter. More encouragingly, our overall funding costs have been on a gradual downward trend, in line with our expectations. We significantly lowered our funding costs by 31 basis points to around 7.5% during the quarter. Meanwhile, our capital-light proportion remained stable at 17% in the second quarter compared to 13% a year ago. These results are a powerful testament to our effective business strategy and skillful execution. We also remain committed to supporting small business owners during this challenging period. During the second quarter, we served over 500,000 small business owners across a variety of industries such as wholesale, retail, and manufacturing, among others, representing an increase of 23% from the same period of 2021. Transaction volume for this segment further increased to 68% year-over-year to a new record high of RMB10.4 billion, contributing 25% of total transaction volume in the second quarter. Moving on to our international expansion, our strategic transition toward better quality borrowers with enhanced technologies continued to deliver promising results. Transaction volume for the quarter increased to RMB0.91 million, representing a sequential increase of 6%. The proportion of better quality borrowers for the second quarter has executed continuous improvement to 62% from 54% in the previous quarter. With a large number of better quality borrowers in our Indonesia business, our proportion of loans funded by local institutional partners also increased to 39% from 14% in the previous quarter, and from no institutional funding in the same period last year. More excitingly, the outstanding loan balance for our international market increased to RMB0.48 billion, representing a year-over-year increase of 60% and a 33% increase sequentially, validating the tremendous opportunities in the international markets. Last but not least, I'd like to provide an update on our ESG performance. At FinVolution, upholding our long-term commitments and responsibilities to our industry, the environment, and society is at the heart of our core values across operations. We continue to make strides in improving our ESG management practices and advancing our ESG initiatives during the quarter. Our recently distributed fourth annual ESG report highlights our ESG policies and accomplishments in 2021, and our membership in the United Nations Global Compact reflects our ongoing endeavors. Furthermore, as part of our ongoing efforts in enhancing our data privacy and information security framework, we have obtained the ISO27001 dual certification of the information security management system issued by DNB, a well-known international standards certification organization. We will continue to reinforce our ESG engagement on multiple levels while leveraging FinVolution's innovative technology and differentiators in ways that improve and sustain communities for generations to come. In summary, our robust performance in the second quarter of 2022 is another powerful testament to our dynamic business model, technological knowhow, and the dedicated efforts of our incredible team. Entering into the second half of 2022, we will remain focused on refining our risk assessment and management framework, advancing our cutting-edge technologies, engaging better quality borrowers, and optimizing our product mix. Looking ahead, we remain confident in our resilience and our ability to skillfully navigate evolving market dynamics in a rapidly changing operational environment while capturing new opportunities in a more sustainable manner. With that, I will now turn the call over to our CFO, Jiayuan Xu, who will discuss our financial results for the quarter.

Thank you, Feng, and hello, everyone. Welcome to our second quarter 2022 earnings call. In the interest of time, I will not go through all of the financial items on this call. Please refer to our earnings release for further details. As Feng mentioned, we are encouraged that despite multiple challenges in the second quarter, we still achieved the transaction volume growth for the ninth consecutive quarter. We're maintaining our risk metrics at a relatively stable level, with our transaction towards better quality borrowers coupled with strengthened relationships with funding partners and consistent technological enhancement. The loan approval rates from our funding partners rose to around 80% in June compared with 65% in the same period last year. We have cumulatively cooperated with around 70 licensed financial institutions and will continue to foster a strong and robust pipeline of potential partners. As a percentage of our better quality borrowers continues to increase, we expect our funding costs to reflect ongoing improvement during the next several quarters. Driven by our consistent efforts in research and development, we have continuously enhanced our chain of technologies throughout our operations, including customer acquisition, fraud detection, credit risk assessment, and customer service, among others. Consistent improvements in numerous operational metrics across multiple market cycles clearly illustrate the effectiveness of our tech refinements. Bolstered by these strengths, our net revenues for the second quarter rose to RMB2.7 billion, an increase of 12% year-over-year. Even more encouragingly, we also delivered a strong non-GAAP operating profit of RMB682 million and maintained a substantial balance sheet with RMB11.4 billion in total shareholders' equity as of June 30, 2022. During the second quarter, our average borrowing costs were 24.2% compared with 26.2% in the same period last year. Of particular note, all loans originated for our new borrowers were under IRR 24%, reflecting our ongoing commitment to financial inclusion and our growing ability to align with regulatory directives. We maintained our take rate for the quarter at a stable pace of 3.8%. Together with our partner support and our constant efforts in optimizing funding costs, we are confident that we can continue to deliver solid results going forward. With the cooperation of our capital-light model stabilizing at around 17%, our leverage ratio, which is defined as the risk-bearing loan balance divided by shareholders' equity, remained stable at 4.1x. Our unrestrictive cash and short-term liquidity position further increased to RMB5.2 billion from RMB4.9 billion in the same period last year, representing an increase of 6% year-over-year, further demonstrating the robustness of our balance sheet. During the second quarter, we continued with our strategy of acquiring better quality borrowers both in domestic and international markets with attractive borrowing rates. With the cooperation of better quality borrowers increasing both domestically and internationally, our operational metrics have shown improvement on multiple fronts. Going forward, we are confident in maintaining our growth momentum while keeping our risk performance at a stable level. Between January 2022 and July 2022, we deployed around US$27 million to buy back our shares in the public market. Since we initiated our share repurchase program in 2018, we have cumulatively deployed US$158 million to buy back our shares on the public market, reflecting the company's commitment to returning value to shareholders on a long-term basis. Our Board of Directors has also approved an addition of US$80 million to our existing share repurchase program, expanding the program to US$140 million. We believe that the increase in our share repurchase program is an efficient use of our existing capital and demonstrates our strong commitment to providing greater support for our shareholders amidst a challenging macro environment. Before I conclude my remarks, let me provide some additional color on our business outlook for the second half of 2022. With uncertainties in the environment of COVID-19 situation, we remain cautiously optimistic that our business operations will continue to gain momentum, both domestically and internationally, due to our in-depth experience in the customer finance industry, our sophisticated technology expertise, and our strong relationships with our partners. We're prepared to capture both existing and new opportunities in the markets in which we operate. As a result, we now expect our total transaction volume in the third quarter to be in the range of RMB44 billion to RMB45 billion, representing an increase of between 16% to 18% year-over-year. With that, I will conclude my prepared remarks. We will now open the call to questions. Operator, please continue.

We will now start the question-and-answer session. Our first question will come from Frank Zheng of Credit Suisse. Please go ahead.

Thank you, management, for the opportunity. This is Frank Zheng from Credit Suisse. Congratulations on a strong set of results despite the challenges. I have two questions. First, regarding volume growth in the second half, considering the current guidance for the first three quarters indicating a volume of around RMB125 billion to RMB126 billion, is the company still on track to meet the full-year guidance of RMB175 billion to RMB180 billion? My second question is about international markets. How does the company assess the contribution from international markets to both volume and take rate, and what is the outlook for these markets? Thank you very much.

Okay. Hi, Frank. Let me translate that question. First, we are maintaining our full-year guidance of RMB175 billion to RMB180 billion. However, there are still uncertainties due to ongoing COVID outbreaks in various cities. Therefore, we will continue to take a cautious approach. We have gained experience and improved our technologies during this period, allowing us to sustain healthy, progressive growth despite the challenging macro environment. Our international business started transitioning to superior quality in the second half of 2021, and we can see that this transition has been completed, particularly in the second quarter. While our transaction volume growth is only 6%, our outstanding loan balance has increased by 33% quarter-over-quarter. The proportion of installment loans has risen to 85% from 55% in the previous quarter and from just 20% a year ago. With a growing number of high-quality borrowers in Indonesia, loans funded by local institutional partners increased to 39% compared to 14% in the previous quarter. Our progress in transitioning the international business has exceeded expectations. In the third quarter, we anticipate transaction volume to be around RMB1.1 billion, reflecting a 20% increase compared to the previous quarter, with an outstanding loan balance projected to rise by about 40%. As we've completed the transition to high-quality borrowers in our international business, we believe we are entering a growth phase.

Many thanks.

The next question comes from Yada Li of CICC. Please go ahead.

By the end of the second quarter of 2022, what are the average prices of our loan products for both our existing assets and new originations? Additionally, what is the proportion of high interest rate assets in the total outstanding loan balance? Looking ahead, when can we anticipate the conclusion of the pricing adjustment and a relatively stable take rate? Also, what trends are we observing in our risk indicators, such as 90-day delinquency and other leading indicators? Have we already reached the peak in asset quality pressure? Regarding the reasons for the improvement in asset quality, is it due to our proactive changes in customer acquisition, operations, and risk control, or can we attribute it to a natural response to improvements in the macro economy and recovery from COVID-19? Thank you, management.

Now let me provide the translation for this question. From the perspective of the outstanding loan balance and transaction volume, we believe they are similar due to our relatively short loan tenure of about eight months. I want to remind you that in the fourth quarter of last year, approximately 80% of our loans were already under an interest rate of 24%. In the second quarter of 2022, our average loan pricing was about 24.2% regarding transaction volume. Additionally, all loans issued to our new borrowers are already under 24%. We believe we are ready and have finished the pricing adjustment process. Our business model remains healthy, and we anticipate continued growth. We believe there is still potential for us to conduct more transactions with higher-quality borrowers, alongside improvements in funding and risk management. We estimate that the average pricing in the third quarter will be around 23.5%, and we are maintaining a take rate of roughly 3.7%.

Let me quickly add just to be more specific to the question about when do we expect the price adjustment to be done and when do we expect the take rate to be stabilized? We believe the regulatory environment for pricing regulation, we don't expect major changes in the foreseeable future. Given our pricing is around 24%, we believe the price adjustment work is mostly done. Now, as we continue to move upscale in our customer quality, we do expect the price to very gradually drop as the customers' quality improves, because better customers enjoy a lower price. But it's going to be very gradual and coupled with reduced funding and improved risk efficiency. So overall, we believe our take rate going forward will be stabilized at the current level, around 3.7% as was just mentioned.

Okay. Let me summarize some risk metrics. Our Q2 vintage is projected to be about 2.4%, and our loan collection rate for one to 30 days has improved to 91% from 90%. Our delinquency rate peaked in April and May but has since returned to 2.3%. There were some fluctuations during the COVID period, but they were minor, only increasing by 0.1%. Being based in Shanghai, we faced a greater impact than many companies due to our core management and employees being based there, especially since we experienced a lockdown for three and a half months. The reason for our success is our commitment to serving higher-quality borrowers over the past two years and our advancement in technology for customer acquisition, fraud detection, and funding allocation. I want to highlight two significant technologies. Our Octopus smart acquisition platform allows one person to manage over 30 accounts compared to the traditional limit of three, greatly increasing efficiency. Setting up 100 advertisements traditionally takes about three hours, but with the Octopus Platform, it only takes five minutes, saving considerable time. Additionally, our Ming Mirror fraud detection system leverages knowledge graphs, complex network computing, machine learning, and over 2,000 models to analyze billions of relational data, helping us detect up to 65% of intermediary fraud during the application process. These technologies have enabled us to address external challenges and uncertainties during the COVID crisis.

The next question comes from Alex Ye of UBS. Please go ahead.

So to translate for my question, the first one is on the outlook for funding costs. Could you share how much more improvement we can expect for the rest of this year? The second question is about your asset quality. Can you provide an update on the latest trends regarding your day one delinquency for July and August? Also, are there significant differences between your SME customers and your overall portfolio? Lastly, regarding consumer credit demand, given the weak macro data, have you noticed a substantial decline in application volume compared to the same period last year, and what has the latest recovery trend been? Thank you.

Alex, let me address the first question. In the second quarter compared to the first quarter, our funding costs improved by 31 basis points sequentially. During the COVID period, our partners were quite concerned about fluctuations in risk metrics, but we reassured them with our consistent risk performance. In the third quarter, we anticipate further improvement in our funding costs, expecting an enhancement of 20 to 30 basis points. Let me also translate question number two. Our day one delinquency rate was approximately 5.5% in the second quarter, and we have observed improvements since that time. In the second quarter, we assisted over 500,000 small business owners with more than 10 billion in transaction volume. Prior to the pandemic, the credit performance of our small business owners was roughly 10% better than that of our retail borrowers. During the lockdown, the risk metrics for small business owners were slightly higher than for retail borrowers. In the second quarter, we also noted that the risk level for small business owners has returned to similar levels as those of retail borrowers. Moving forward, we expect the risk metrics for small business owners to fall below those of retail borrowers. As for customer demand, the data from the overall consumer market is quite complex and influenced by several factors, such as the impact of the macro environment on consumer confidence, the effects of stimulus policies on liquidity, and the influence of post-pandemic recovery on consumption. Taking all these factors into account, overall consumer consumption has remained stable, with limited fluctuations of 1% to 2%. Our data further indicates that loan application demand has been reliably stable in the second and third quarters.

Thank you.

The next question comes from Thomas Chong of Jefferies. Please go ahead.

Thank you to management for addressing my questions. My first question is about competition. With pricing trends reaching 24%, how should we view competition with our peers and traditional banks going forward? My second question is regarding international business. What aspects of our domestic strategy can we replicate internationally? Additionally, are we noticing any differences in borrower behavior between these two regions? Thank you.

Thomas, let me translate for you. We can look at competition from several angles. Firstly, the China market is large and still growing. Secondly, we are not in the same category as traditional financial institutions due to their lower pricing. To put this in perspective, there are 7,000 traditional financial institutions. Thirdly, the number of players in this market has significantly decreased. The finance market differs from the international segment as it's not a winner-takes-all scenario. We believe that competition remains manageable, and we are very optimistic about our future growth.

Hi, Thomas. This is Feng. Let me take the second question. So with regard to our expansion internationally, I think there are a lot of things we can and are leveraging from our domestic experience. The most important thing is, please remember that we have 15 years of operational experience in the China market. If we think about the international market, we are mostly in developing countries, particularly in the Southeast Asian region. In terms of the fintech developing stage, it's probably somewhere around five to 15 years ago, if you compare to China. I think there are many aspects, but I would say Indonesia is probably around a similar stage to 2014 or 2015 of domestic China. The credit infrastructure is still undergoing pretty rapid improvement, and the market is growing very fast. For another country we're operating in, the Philippines, it is probably a few years behind Indonesia. Hence, the experience we have accumulated these years are very valid and valuable for our expansion and development in the Southeast Asian market and additional future developing countries. This includes systems, know-how, and talent. We have a very experienced team. For example, one notable thing is that we are thinking about building a valuable and sustainable business in the Southeast Asian region, based on our experience in transitioning or transforming our business from a high pricing population strategy to a very healthy, low pricing, high-quality customer base strategy. The current state of the credit infrastructure situation in the South Asian market, inclusive of finance, sees higher pricing than the domestic China market, which is normal considering the development stage of those markets. But as we move forward, we'll likely see a price drop both from a regulatory requirements perspective and economic development, coupled with market competition. That journey we went through in China has equipped our team with tons of experience, leading to a successful transition in the Indonesian market in the past year.

Thank you.

This concludes our question-and-answer session. I'd like to turn the call back over to the company for closing remarks.

Hello, everyone. Thank you for joining FinVolution's second quarter earnings conference call. If you have any further questions, feel free to reach out to our Investor Relations team. Have a nice day.

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