Earnings Call Transcript - FUTU Q1 2023

Operator, Operator

Hello, ladies and gentlemen. Welcome to Futu Holdings’ First Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen-only mode. After management's prepared remarks, there will be a Q&A session. Today's conference call is being recorded. Please follow the operator's instructions. I would now like to turn the conference over to your host for today's conference call, Daniel Yuan, Chief of Staff to CEO and Head of IR at Futu. Please go ahead, sir.

Daniel Yuan, Chief of Staff

Thanks, operator. And thank you for joining us today to discuss our first quarter 2023 earnings results. Joining me on the call today are Mr. Leaf Li, Chairman and Chief Executive Officer; Arthur Chen, Chief Financial Officer; and Robin Xu, Senior Vice President. As a reminder, today’s call may include forward-looking statements, which represent the Company’s belief regarding future events, which by their nature are not certain and are outside of the Company’s control. Forward-looking statements involve inherent risks and uncertainties. We caution you that a number of important factors could cause actual results to differ materially from those contained in any forward-looking statements. For more information about the potential risks and uncertainties, please refer to the Company’s filings with the SEC, including its annual report on Form 20-F. With that, I will now turn the call over to Leaf, who will make his comments in Chinese and I will translate.

Leaf Hua Li, Chairman and CEO

Thank you all for joining today. As of the end of the quarter, we have over 1.5 million paying clients, reflecting a 15% growth year-over-year. Based on the growth of paying clients in the first five months of the year, we anticipate adding 150,000 paying clients in 2023. In the first quarter, the Hong Kong market accounted for more than one-third of our paying client growth, propelled by an increase in client acquisition following the rally in Chinese technology stocks in January. We also saw strong growth in paying clients in Singapore as we worked to enhance our brand visibility through offline events and increased demand for lower-risk fund products through educational initiatives. We are continuously expanding our trading product offerings and enhancing trading features across various markets. We have become the only broker in Hong Kong that permits clients to trade certain U.S. stocks and ETFs around the clock, five days a week, which improves the flexibility and accessibility of U.S. stock trading. Additionally, we launched leveraged foreign exchange trading in Singapore, allowing clients to trade 36 major currency pairs on margin to capitalize on market volatility. In the U.S., we introduced multi-leg options strategy orders for U.S. stocks, which simplifies the trading experience for our clients and is likely to attract more sophisticated options traders to our platform. Despite some market weakness and regulatory headlines, our broadening product line and premium user experience resulted in another quarter with a retention rate of over 98% among paying clients. Total client assets rose by 21% year-over-year and 12% quarter-over-quarter, reaching HK$466 billion, driven by the increased market value of client stock holdings and net inflow of assets. In Singapore, both total client assets and average client assets increased by 28% and 22% sequentially, thanks to strong net asset inflow and favorable performance in the U.S. equity markets. In the first quarter, we attracted high-quality clients in Singapore who funded their trading accounts; for clients acquired in January, their average asset balance nearly tripled. The margin financing and securities lending balance rose by 30% sequentially to HK$35 billion, fueled by increased activities in technology stocks. Total trading volume reached HK$1.2 trillion, a 12% increase quarter-over-quarter. U.S. stock trading volume grew by 23% sequentially to HK$828 billion, primarily due to higher trading turnover of U.S. technology stocks, many of which significantly outperformed the market during the quarter. In contrast, the Hong Kong stock trading volume was HK$372 billion, down 6% sequentially as investor sentiment was dampened by equity market corrections in February and March. Our wealth management business achieved another quarter of strong growth, with total client assets reaching HK$37 billion, an increase of 77% year-over-year and 17% quarter-over-quarter. In Singapore, heightened interest in money market funds led to a 69% sequential increase in total client assets. We also expanded our offerings to include bond trading. By the end of the quarter, 15% of our paying clients in Singapore held wealth management products, up from 1% in the same quarter last year. In Hong Kong, we enhanced our structured product offerings with fixed coupon notes and digital notes, which have become popular among our high-net-worth clients, contributing to a five-fold growth in structured product asset balances quarter-over-quarter. We had 353 IPO distribution and investor relations clients and 662 Employee Stock Ownership Plan clients by quarter end, reflecting year-over-year increases of 37% and 44%, respectively. We served as joint lead managers for several notable IPOs in Hong Kong, including those for Beauty Farm Medical and Health Industry and YH Entertainment Group. In the first quarter, we underwrote nine Hong Kong IPOs, ranking first among all brokers according to Wind. I'm excited to announce that our wholly-owned Malaysian subsidiary has received in-principle approval for the Capital Markets Services License from the Securities Commission Malaysia. We are eager to take advantage of the significant market opportunity in Malaysia and further strengthen our presence in Southeast Asia. Next, I’d like to invite our CFO, Arthur, to discuss our financial performance.

Arthur Yu Chen, CFO

Thanks, Leaf and Daniel. Now please allow me to walk you through our financial performance in the fourth quarter. All numbers are in Hong Kong dollars unless otherwise noted. Total revenue was HK$2.5 million, up 52% from HK$1.6 billion in the first quarter of 2022. Brokerage commission and handling charge income was HK$1.1 billion, an increase of 12% year-over-year and 3% quarter-over-quarter. The year-over-year increase was mainly driven by a higher blended commission rate of 8.8 basis points. The quarter-over-quarter increase was primarily attributable to higher U.S. stock trading volumes. Interest income was HK$1.3 billion, an increase of 125% year-over-year and 14% quarter-over-quarter. The increase was driven by higher interest income from cash deposits and higher securities lending income. Other income was HK$126 million, up 29% year-over-year and 34% quarter-over-quarter. The year-over-year and quarter-over-quarter increases were both driven by higher fund distribution income. Our total cost was HK$291 million, an increase of 28% from HK$228 million in the first quarter of 2022. Brokerage commission and handling charge expenses were HK$72 million, down 25% year-over-year and up 13% quarter-over-quarter. The expenses didn't move in tandem with our brokerage commission and handling charge income mainly due to cost savings from our U.S. self-clearing business. Interest expenses were HK$131 million, up 234% year-over-year and down 28% quarter-over-quarter. The year-over-year increase and the quarter-over-quarter decrease were both driven by interest expenses associated with our securities lending business. Processing and servicing costs were HK$88 million, down 5% year-over-year and 9% quarter-over-quarter. The year-over-year decrease was mainly due to a lower cloud service fee as a result of system optimization. The quarter-over-quarter decrease was mainly due to lower market information fees and data transmission fees. As a result, total gross profit was HK$2.2 billion, an increase of 56% from HK$1.4 billion in the first quarter of 2022. Gross margin was 88% as compared to 86% in the first quarter of 2022. Operating expenses were up 7% year-over-year and down 2% quarter-over-quarter to HK$804 million. R&D expenses were HK$355 million, up 26% year-over-year and 6% quarter-over-quarter. The increase was mainly due to an increase in R&D headcount as we continue to support new product offerings and invest in product localization in new international markets. Selling and marketing expenses were HK$141 million, down 51% year-over-year and 80% quarter-over-quarter. Expenses declined due to decelerating client acquisition amid weak market sentiments. G&A expenses were HK$308 million, up 73% year-over-year and down 7% quarter-over-quarter. The rise was primarily due to the increase in headcount for general and administrative personnel to support our international business. The expenses declined quarter-over-quarter as we recorded one-off professional service fees for our proposed Hong Kong listing last quarter. As a result, our net income increased by 108% year-over-year and 24% quarter-over-quarter to HK$1.2 billion. Net income margin expanded to 48% from 35% in the same quarter last year, mainly due to strong revenue growth and lower marketing spending. That concludes our prepared remarks. We’d now like to open the call to questions. Operator, please go ahead. Thank you.

Operator, Operator

Thank you. Please follow the operator's instructions. We now have the first question ready. This is from the line of Chiyao Huang from Morgan Stanley. Please go ahead.

Chiyao Huang, Analyst

My first question is about the international expansion, specifically the positive progress we've observed in Singapore during the first quarter. Could management provide more details on developments in the U.S. and Australia markets? Additionally, regarding the new entrants in the Malaysian market, any plans for localization would be appreciated. My second question relates to the recent regulatory change involving the removal of the Futubull app from onshore app stores. I would like to know how this will impact existing onshore users and their experience. What are the Company's plans to ensure high-quality service for these existing clients? Looking ahead, how does management view the existing total addressable market as onshore clients change? How will the Company adapt moving forward? Thank you.

Arthur Yu Chen, CFO

Thank you, Chiyao. I think for the first question, Daniel and Robin can give you some insight about our first-quarter achievements in Australia and in the U.S., and also our ambitious plans for entering Malaysia potentially in the second half of this year. For your second question about the CSRC maintenance regulation implications, I think Leaf will give you some more insights in terms of the implications for existing users. I can just supplement some initial data from the past week, which we observed that we hope will be helpful to you.

Robin Li Xu, Senior Vice President

For Malaysia, we have received approval in principle for the Capital Markets License from the Securities Commission Malaysia. Next, we will begin to build a local team and focus on product development and research. We have not yet set an official launch date in Malaysia and will provide updates when available. In the U.S. market, growth slowed during the first quarter as we were optimizing our localization strategy to enhance client quality. We introduced multi-leg options trading in the first quarter and plan to launch advanced functions like bracket orders this year while continuing to strengthen our core product capabilities for U.S. stocks and derivatives trading. In the future, we will also provide customized investor education and activities to boost brand awareness and attract clients. In Australia, client acquisition increased in the first quarter, and brand awareness has improved after over a year of brand building. We've adopted various methods to cultivate brand awareness and acquire clients from different backgrounds, and we plan to continue launching new product functions and gaining deeper customer insights. Existing client trading is not affected by the recent CSRC announcement, and clients can continue trading through their offline financial institutions. They can also deposit additional funds as long as they meet certain requirements. All trading activities for our existing clients are proceeding as usual, and we can open accounts for Mainland Chinese clients who have accounts with other Hong Kong brokers. Fund deposits and stock transfers from other brokers to us are also permitted. Regarding app upgrades, we have provided guidelines on our website and app to assist clients in upgrading to the latest version. We believe our current services to existing clients remain intact, and they can reach out to customer service or use the app for inquiries anytime. We address client requests promptly. Thank you.

Arthur Yu Chen, CFO

Yes, and I want to supplement, if I may, some initial observations since we announced the removal of our app from domestic Apple stores last Tuesday. We are pleased to report that it appears our existing China clients' population is very calm about this headline news. We do not see any meaningful abnormal churn rates or client net asset outflow in the past week.

Chiyao Huang, Analyst

Yes, and I want to provide some initial observations since we announced the removal of our app from domestic Apple stores last Tuesday. We are pleased to report that our existing clients in China seem to be very calm regarding this news. We have not observed any significant abnormal churn rates or outflow of client net assets in the past week.

Operator, Operator

Thank you. We'll now take our next question. Please stand by. This is from the line of Cindy Wang from China Renaissance. Please go ahead.

Cindy Wang, Analyst

Thank you for taking my questions. I have two inquiries. The first relates to the commission rate, which has slightly decreased sequentially. Can you explain the reasoning behind this change? Is it due to the impact of U.S. stock refunds or lower derivative trading in the first quarter? My second question pertains to Futu opening its first shop in Hong Kong. Could management clarify what services the shop will offer and whether investors will be able to open trading accounts there in the future? Thank you.

Arthur Yu Chen, CFO

Thank you, Cindy. I will take the first question and for your second question, Leaf will answer it. In terms of commission rates, you are correct. I believe the fluctuation is due to the two reasons you mentioned. Primarily, it is due to the U.S. stock trading patterns, as we've elaborated to the market several times. It is more associated with the U.S. markets rebounding, especially for these big tech names in the first quarter. Going forward, we do not anticipate any strong competition in terms of pricing in Hong Kong and other markets. There will naturally be some fluctuations quarter-to-quarter due to the U.S. stock trading patterns. Furthermore, in the second quarter so far, given that the markets are trading within a narrow range, we have observed that client activities on the derivative side, especially options and futures, have decreased on a quarter-over-quarter level. This will have some implications for the blended commissions in the second quarter. I will hand over to Leaf for your second question.

Leaf Hua Li, Chairman and CEO

We have been planning to open offline stores for some time and are currently renovating them, which has likely gained attention from local media. Our inspiration for these stores comes from Apple's offline store concept. I believe this store will allow potential clients to better experience our products and services, and it will enable us to address many of your questions in person. As we work to increase our client base in Hong Kong, I think the store will help us connect with clients we haven't reached through online channels and further enhance our client acquisition efforts. Thank you.

Operator, Operator

Thank you. We will now take the next question. Please standby. This is from the line of Zoey Zong from Jefferies. Please go ahead.

Zoey Zong, Analyst

Thank you, management, for taking my questions. Congratulations on the solid results. I have two questions. First, could you provide some insight into our user acquisition strategy this year? We have noted that in Q1, our sales and marketing expenses and customer acquisition costs both declined sequentially. Recently, we've seen companies increasing promotions in Hong Kong, so I was wondering what our user acquisition targets and costs will be in Q2, for the year, and in the longer term. My second question is about our strategies for the wealth management business. Will we launch our own fund products, or do we just perform as a distributor? Thank you.

Arthur Yu Chen, CFO

Thank you, Zoey. I will take both of your questions. In terms of client acquisition, as you can see, our customer acquisition cost in the first quarter is roughly in line with what we achieved in the fourth quarter of last year. I believe going forward, despite the challenges in the second quarter given the market conditions—especially in Hong Kong where the index is trading in a very narrow range and there are no meaningful IPO projects—the implication for our client acquisition may be negative. However, I think overall our customer acquisition target this year should remain similar to last year's targets. Particularly in Hong Kong, we will continue to intensify our efforts for market share gains, not just focusing on the millennial generations as we have done in the past, but also targeting new populations, such as females and clients over the age of 40. Regarding wealth management, you are correct. For the foreseeable future, our role will still be as a facilitator or distributor for our clients. We have not confirmed any primary plans to package our quarters using our own funds. Thank you.

Zoey Zong, Analyst

Thank you.

Operator, Operator

Thank you. We will now take the next question. Please standby. This is from the line of Frank Zheng from Credit Suisse.

Frank Zheng, Analyst

Thank you, management. This is Frank from Credit Suisse. I have two questions. The first one is about the breakdown of interest income in terms of return on deposit and return on margin financing and securities lending business. Similarly, what are the sizes of each component of interest expenses? And secondly, how should we think about the growth rate of operating expenses going forward? Will the Company take measures to optimize expenses? Thank you.

Arthur Yu Chen, CFO

Thank you, Frank. I will take both of your questions. In terms of the breakdown of the interest income, we are key beneficiaries of the U.S. rate cycle. Thus, in the past several quarters, you can see our interest income continuing to increase sequentially, largely due to the federal rate hikes and the liquidity situations in Hong Kong. Therefore, the majority of our interest income comes from clients' cash deposits. Having said that, you can also see our margin balance increased quarter-over-quarter in the first quarter, indicating that the absolute contribution from the margin business is also quite healthy. Regarding your second question about operating expenses, we have provided guidance to the market during the last earnings call. We are looking at roughly a 15% to 20% headcount increase year-over-year, primarily to support our international market expansion. Most of this headcount increase will occur in R&D. Of course, there will also be new overseas office openings, which will result in associated rental expenses and the hiring of security personnel for these local markets. Going forward, there will definitely be a need for more rigorous expense control, especially regarding G&A expenses, which still have room for further optimization. However, regarding R&D, we view this as an investment, not merely an expense. Therefore, we will continue to invest heavily in R&D, which we believe is our core advantage compared to our peers. Thank you.

Operator, Operator

Thank you. We will now take the next question. Please stand by. This is from Leon Qi from Daiwa. Please go ahead.

Leon Qi, Analyst

Thanks for taking my question and congratulations on the very strong results. I have two questions. The first one is regarding the regulations from Mainland China. We noticed from CSRC's public announcements that one of the principles is to effectively resolve the existing users. Could management share any information on the current stance from the regulator regarding the existing client base? The second question is on the wealth management business. We appreciate the strong AUM growth in this area. From a long-term perspective, how does management view the AUM of your buy-side business in comparison to your sell-side traditional brokerage AUM? It would be helpful if management could provide some long-term insight on this. Thank you.

Arthur Yu Chen, CFO

Thank you, Leon. Maybe I’ll take your second question first, and Leaf can provide some insights for your first question regarding the Mainland regulations. We are dedicated to being an asset aggregator for our users and provide them with a lifetime of financial services moving forward. Currently, the wealth management AUM roughly accounts for close to 10% of our total clients' assets. I hope that this proportion continues to increase to 20% to 30% over the next three to five years. It will undoubtedly be a long journey. As you can imagine, building wealth management is a long-term business operation. Still, we are fully committed to this direction and plan to grow our AUM gradually. Now, I will hand over to Leaf for your first question about the mainland regulations.

Leaf Hua Li, Chairman and CEO

Based on the announcement from the CSRC on December 30 and the statements made on February 15, our approach to resolving existing business is to allow clients to transition naturally while ensuring we provide them with appropriate services, rather than turning them away. Some clients might cease trading due to investment losses or require their funds for other uses, which will lead to a natural decline in our client base. If we do not attract new clients, the number of existing clients will diminish over time. Thus, effectively serving our current clients is essential for a smooth resolution of our existing client relationships. Thank you.

Leon Qi, Analyst

Thanks a lot.

Operator, Operator

Thank you. We will now take our next question. Please stand by. This is from Han Pu from CICC. Please go ahead.

Han Pu, Analyst

Firstly, could you elaborate on why we selected Malaysia as our new market? Do we have additional insights regarding the market environment, competitive landscape, local investor behavior, and product supply in this region? Secondly, concerning the Singapore market, we've observed continued growth in both the number of paying clients and average client assets quarter-over-quarter. Looking at the cohort from the first batch two years ago, how are their average client assets and follow-on fund inflows performing? Have they reached breakeven and begun making deposits? Thank you.

Arthur Yu Chen, CFO

Thank you. Maybe my colleague Robin can answer the first question about the competitive landscape and our competitive advantage in Malaysia. I will take your second question. Robin, please go ahead.

Robin Li Xu, Senior Vice President

Malaysia has a population of around 33 million, with the Chinese community making up about 20%. As of 2022, there were approximately 2.1 million active retail trading accounts in Malaysian stocks. The number of trading accounts in the U.S., Hong Kong, and Singapore is increasing and is in the hundreds of thousands. We have noticed that retail investors in Malaysia are predominantly young and familiar with digital platforms. In 2022, 59% of new personal accounts were opened by investors aged 23 to 45. Currently, traditional bank-affiliated securities firms hold a major share of the market, while online brokers have entered the scene more recently. Nevertheless, given the trend of younger retail investors and their favorable attitude towards internet products, we see significant opportunities for online brokers to expand their reach. Mainstream internet brokers such as Rakuten, iSPEED, and MPlus are relatively small and offer basic product features with minimal community engagement. In contrast, we possess notable advantages, including a broader range of products, advanced market data, and comprehensive fundamental and technical analysis tools. Additionally, trading fees for foreign stocks, like those from the U.S., are quite high in Malaysia, ranging from $10 to $25 per trade, and we can significantly lower these costs for offshore stocks. Finally, we provide an active social community, extensive investor education resources, and strong internet operational capabilities, which we believe will enhance the experience for Malaysian investors. Thank you.

Arthur Yu Chen, CFO

Thank you, Daniel and Robin. In response to your second question, we entered the Singapore market roughly two years ago. The average assets of the first batch of our clients have increased by two to three times in this period. We are encouraged to see the overall growth of our clients and their retention rates. Now, for the first batch of clients we acquired two years ago, they have surpassed our customer acquisition cost, contributing to operating profits. We are extremely confident about our profitability and earning capacity in the Singapore market, not only due to the performance of this cohort but also because we will implement a range of initiatives to reduce costs, both operationally and in terms of clearing, particularly regarding U.S. stock trading. We plan to gradually move our U.S. stock trading for Singapore clients from external partners to our internal U.S. clearing house in the second half of this year, which should significantly lower our costs associated with U.S. stock trading and enhance our profitability in Singapore. Thank you very much.

Han Pu, Analyst

That's very helpful. Thank you very much.

Operator, Operator

Thank you. I will now hand the conference back to Yuan for some closing remarks.

Daniel Yuan, Chief of Staff

That concludes our call today. On behalf of the Futu management team, I would like to thank you for joining us. If you have any further questions, please do not hesitate to contact me or any of our Investor Relations representatives. Thank you and goodbye.

Operator, Operator

Thank you. This does conclude the conference for today. Thank you for participating, and you may now disconnect.