Earnings Call Transcript - INTR Q1 2023

Santiago Stel, Strategy and IR Officer

Thank you, operator. Good afternoon, everyone. Thank you for attending our first quarter 2023 earnings call. Before we dive into the agenda, let me present the phrase that summarizes the results and the moment in which we are at Inter: harvesting profitable results from solid foundations. This phrase captures the essence of who we are and where we stand today. Joao Vitor will elaborate on this in his opening remarks. Jumping into Page 4, let me introduce the agenda for the day. Joao Vitor will start the presentation, sharing with you an overview of our vision and the main achievements of the quarter, then Alexandre will cover the credit engine section. I will present funding capabilities together with the transactional platform, and finally, Helena will cover the financial performance section with Joao closing with his final remarks. Joao, I'll pass the mic to you.

João Vitor Nazareth Teixeira de Souza, CEO

Thank you, Santiago. Good afternoon, everyone. Before going to the details of the quarter, let me share my vision for Inter on Page 6. I have reflected on this, given that we just had the fifth-year anniversary of our IPO. Since then, we have been able to attract a top-level management team. This gave us the ability to build the best Super App in the Americas. This Super App allowed us to build a unique deposit franchise that quickly achieved critical mass in the Brazilian banking system. The result is a fortress balance sheet with massive capital and liquidity, all made possible by our more than 26 million clients. This was achieved through an amazing journey of innovation, creating strong foundations over which we stand today. But like everything in life, we are always evolving and need to adapt to the context in which we operate. On the next slide, I want to share with you the way we are running the business for the next five years. Client-wise, we are adapting from massive growth to a growth and engagement approach. On loans, instead of being just market share-driven, we're moving to a more price-sensitive format. On capital, we moved from the deployment phase to a tactical use of this important pillar. Lastly, on efficiency, we now see it as an outcome, and it has become one of the most important guidelines for our business. With that said, on Page 8, I will present a glimpse of the value that can be produced with this strong harvesting approach. In demand deposits, we increased our market share by an additional 21 basis points to reach a 3.6% share, now ranking sixth among our Brazilian banks. In terms of activation, we increased by 50 basis points and added a record number of new active clients in our history: 1 million new active clients in the quarter. Our efficiency ratio reached an impressive 62% in this quarter due to operational leverage. The disciplined repricing of our loan portfolio allowed us to increase our NIM by 30 basis points this quarter. We produced bottom-line profitability, which sets the stage for the remainder of the year. We concluded the quarter with a 23% Tier 1 ratio, which, according to our estimates, is twice the level of the top five incumbent banks in Brazil. With that said, I'll now pass the mic to Alexandre, who will walk you through our credit engine.

Alexandre De Oliveira, VP of Tech Operations and Finance

Thank you, Joao, and good afternoon, everyone. I will start by discussing the growth of our loan portfolio on Page 10. We were able to start the year running at a 20% annualized loan growth rate, growing 5% quarter-on-quarter, with a portfolio reaching BRL 24 billion. The growth has been primarily focused on the lower-risk segments, such as FGTS loans, which grew by 58% in just one quarter. In credit cards, we grew by 6%, still reflecting the more conservative stance toward unsecured credit that we have maintained since the beginning of last year. Regarding payroll and real estate loans, we continue evolving with the repricing initiative, which is driving much higher profitability levels in these portfolios. Additionally, this quarter, our financials include the breakdown of interest income by portfolio, allowing investors to see the evolution of our loan yield by product. As you can see, the rates are increasing across products as our portfolio is increasingly repriced. Please note that the implied rate in SMBs has an impact of lower outstanding balances in January and February. Finally, the all-in annualized yield of the portfolio increased from 20.3% to 22% this quarter, which is an impressive evolution. Now on Page 11, we highlight our asset quality metrics, which performed well this quarter. Starting with the 15- to 90-day NPLs, which isolates the impact of loan growth, we were roughly flat during the quarter. The 90 days past due metric did see an increase of 30 basis points, in line with the general market trend. The main driver of this NPL increase is delinquency in the older cohorts of credit cards. To illustrate this point, we included a graph that shows the NPL of cards by cohort. As we can see, there is a consistent improvement across cohorts, which is a result of both our choice to be more conservative in our credit underwriting improvements. Finally, we reported 1.5% NPL formation, again in line with market trends and our past performance. To finish, on Page 12, we show that our cost of risk reached 6% in the quarter. The increase, as mentioned previously, is mainly associated with older cohorts of credit cards. To give better color on this effect, we included in this slide the breakdown of the provision expense for each quarter, showing in orange how much was due to originations of that same quarter versus how much was from portfolio built in prior quarters. This intends to show that the increase in provisioning is explained by the other cohorts. Once these delinquent credits from older cohorts pass the 360-day mark, they will be written off, and the ratio of NPLs and cost of risk should improve. Finally, on coverage ratio, we kept the ratio constant at 130% by provisioning in line with the NPL formation trend. Now I will pass the word to Santiago, who will cover the funding and transactional platform sections.

Santiago Stel, Strategy and IR Officer

Thank you, Alexandre. On Page 13, you can see the evolution of our funding base, one of the key competitive advantages of our platform. Our deposits grew 33% year-over-year, reaching BRL 30.8 billion. When we compare this year to our loan balance described by Alexandre, you can see that our loan-to-deposit ratio remains very healthy, significantly below 100%. It's interesting to note that this quarter, we materially increased our market share in demand deposits, growing to 3.58% and now ranked as the sixth-largest Brazilian bank by this metric. Another point to highlight is that our deposit base is highly fragmented, with over 12 million clients trusting us with their deposits. Moving to Page 15, I would like to say that on funding costs, we continue delivering strong performance, with our cost of funding among the best in the industry. We recorded a 65% funding cost as a percentage of CDI, even with seasonality of demand deposits being adverse in the quarter. As we continue gaining share of demand deposits and improve our activation further, we believe we will be able to maintain this strong competitive advantage. Now let me walk you through the main topics of our transactional platform on Page 17. As Joao mentioned, we reported our highest level of net new active players on record by adding 1 million this quarter. This came combined with a low level of total new clients at 1.6 million, which shows that our conversion ratio to active clients improved significantly to 59% from 38% a year ago. You can see also on the left side graph that our activation rate showed attractive growth compared to the prior quarter, reversing the previous trend. This dynamic is a result of our efforts to get new activation opportunities as clients navigate in our Super App. To name an example, we deployed our personalized version of our Super App with other material improvements in our onboarding and UX/UI processes. As we are fully focused on adding a high-quality client base, we continue to optimize our CAC, which decreased to below BRL 30 this quarter. All this together shows that the profitability profile of our CAC investment increased meaningfully as a result of better use of data, with a stronger understanding of our customers' behavior and preferences. On Page 18, in terms of volume transacted in debit and credit cards as well as PIX, we reached BRL 181 billion, demonstrating our strong position in banking. Looking at transaction volume by cohort indicates that U.S. cohorts are reaching higher levels at a faster pace than the older ones, resulting from better quality clients acquisition and improvement of activation and engagement campaigns. Moving to Page 19, with our clients transacting more than BRL 180 billion per quarter in their daily banking activities, we see a higher propensity to adopt our broader transactional platform. On Inter Shop, we reached 2.5 million clients transacting during the quarter. Our momentum in e-commerce allowed us to continue growing our net take rate, which now stands at 6.5%, our highest level ever. For Inter Insurance, a similar pattern is seen as we improved our upselling and cross-selling initiatives, reaching 1.3 million insured clients. Finally, on Inter Invest, we also had strong adoption, reaching 3.3 million clients and a record level of AuC at BRL 68 billion. As mentioned in the past, all these products are highly lucrative as they consume no capital. On Page 20, you can see our newest initiative, Inter Global, which has been performing at a much higher pace than we anticipated. Starting with nearly 1.5 million clients, after just one year, these clients have a routing number in the U.S., making them real banking clients. In comparison to other newcomers in the U.S., we are ranked 12th in this category. These clients trust and transact on our global platform, which consequently has more than USD 140 million in deposits plus investments. To conclude, the best part of this is we're increasingly replicating our Brazilian offerings into the U.S. with minimal investments by leveraging our existing platform and learning curve. Now I'll pass the mic to Helena, who will cover the financial performance section.

Helena Caldeira, CFO

Thank you, Santiago. Hello, everyone. Starting with our financial performance on Page 22, I'd like to highlight our revenue growth. We recorded BRL 1.8 billion in gross revenues in the quarter, which indicates a run rate level of BRL 7.2 billion. In percentage terms, this signifies a 40% growth year-on-year or 23% growth on a net of funding cost basis. This dynamic has been primarily driven by the ongoing repricing of our portfolio, as mentioned earlier by Alexandre. On Page 23, we can see that the ARPAC on a cohort basis continues to increase over time, with newer cohorts outperforming older cohorts. This reflects our improvements in engagement and cross-sell initiatives, leading to higher monetization. Jumping to Page 24, we discuss the evolution of our interest margins and the impact of our repricing strategy moving forward. On the left side, we see our NIM 1.0, which considers the entire portfolio, including cash receivables that do not accrue interest, also known as excess balance in Brazil. On a quarter-on-quarter basis, our NIM 1.0 improved by 20 basis points. On the left side, we show our NIM 2.0, which considers only the interest-earning portfolio. In this metric, we saw a 30 basis point increase compared to the prior quarter and a 70 basis point increase compared to a year ago. It is worth noting that the growth in funding was skewed towards the most expensive deposits this quarter, making the delivery of this NIM increase in such context a testament to the strong ongoing repricing exercise that we are thoroughly executing. Flipping to Page 25, on the expense side, we report what we believe is very strong progress. Our expenses decreased by 13% compared to the prior quarter, showing a nominal decrease in most significant lines. In particular, personnel expenses decreased by 17%, despite the impact of the annual increase in the fourth quarter, which is known as the Brazilian equivalent of a bonus. The other lines remained under control, reflecting the strong focus on expense management to deliver the best services to our customers in a cost-efficient manner. Going to Page 26, the improvements can be seen in our operational leverage. The evolution of our ratio of active clients per employee is trending positively and has even accelerated further this year. We went from a ratio of 2,600 active clients per employee a year ago to 3,500 active clients per employee in the first quarter. As a result, we have lowered the cost to serve, which now stands at 13.8. Finally, I would like to highlight the impressive improvement in our efficiency ratio. This is a result of our repricing strategy and cost control initiatives. We reached 62% in this metric, which is an improvement of 9 percentage points. This is a strong sign of our commitment towards our five-year business plan presented at the last Investor Day, as also highlighted by Joao. Moving to Page 27, we recorded a 23% CET1 ratio in the quarter, with the lowest level of capital consumption since our IPO. Additionally, if we consider the expected impact from the new BACEN rules, taking effect in July of this year, our CET1 ratio on a pro forma basis would increase by an additional 150 basis points. Finally, if we put into context our capital, which is fully comprised of top-quality core equity without any hybrid capital instruments, we see that it is priced higher than the median of the five incumbent banks in Brazil. On Page 28, I will walk you through our profitability profile. Net income continues trending positively, reaching BRL 24 million. On a pretax basis, we ended the quarter with BRL 6 million in income. Our ROE, efficient funding at scale, and our obsession with operational excellence are the foundations for these improvements, which are just beginning. I'll pass the word back to Joao for his closing remarks.

João Vitor Nazareth Teixeira de Souza, CEO

Thank you, Helena. Closing on Page 30, I would just conclude by saying that, as we mentioned previously, we are harvesting the results of our solid foundations. Across metrics, I see very encouraging improvements in market share, client activation, operational leverage, NIMs, and bottom line with the best yet to come. Lastly, I would like to thank our amazing team, who are motivated, engaged, and excited to continue this journey with us. Many thanks to all for hearing our earnings call. Operator, we can open it up for questions. Thank you very much.

Thiago Bovolenta Batista, Analyst

I have two questions. The first one is on FGTS loans. Your loan book has already achieved around BRL 1 billion in this segment, which is 4% of the bank's loans in just a couple of quarters. Can you share with us the strategy of Inter in terms of distribution and pricing to achieve this level of loan portfolio with FGTS? The second question is regarding the gross ARPAC. Gross ARPAC has remained relatively stable in the last quarters, ranging from BRL 45 to BRL 47 per month. Do you believe that Inter has already achieved the cap for this ARPAC or can we expect expansion going forward?

João Vitor Nazareth Teixeira de Souza, CEO

Joao Vitor speaking. Thank you for the question. I will cover the section related to FGTS, and then Santiago will cover the remaining part of your question. Regarding FGTS, I would like to highlight that I really value this product, as it offers a very good ROE for our business. It also provides excellent debt service for our clients. Why were we able to achieve this impressive number in just a couple of quarters? Firstly, we have a very good fit among our clients for this product. Many of our clients are young, employed individuals with outstanding FGTS balances. This is the first reason we are able to attract and underwrite a lot of that. We spent some time optimizing the design and UX/UI for our clients to ensure they can access the funds immediately through our app. We initially took time to enter the market, but we did it exceptionally well. The results have been great, and we expect to gain momentum on that product going forward. Santi will cover the other part of your question.

Santiago Stel, Strategy and IR Officer

Thank you, Joao. On ARPAC, we believe there is still significant room for growth. In this quarter, we recorded a record growth in the number of active clients, which increased by 8% relative to December levels. As Joao mentioned, this growth is a consequence of our targeted marketing approach, where we are aiming to increase monetization and investment in the ARPU, specifically targeting clients that turn active. This, combined with a quarter that had lower revenue growth due to seasonality on the fee side, led to the ARPAC trend maintaining relative stability. However, we expect to see this trend normalizing upwards in the second quarter.

Yuri Fernandes, Analyst

I have a question regarding the cost of risk. If you can provide an outlook for the year, I think the cost of risk was 6% this quarter. Where do you think we stand in terms of the peak asset quality? Additionally, congrats on the improved disclosure. We noticed some enhancements in your release. I would like to know more about renegotiated loans and portfolio sales. If you can provide some insights into how you view renegotiated loans within the company, or if you did or did not sell any portfolio this quarter, that would be great.

Alexandre De Oliveira, VP of Tech Operations and Finance

Thank you for your question. I'll start by discussing the cost of risk outlook. The main impact on NPL formation has been from the credit card portfolio, particularly the 2021 cohort. You've probably seen that we've added more information in our disclosure. One piece highlights the NPL of cards by cohort, where we see sequential improvement in the newer cohorts. Another piece details the breakdown of cost of risk from provisions that come from new versus old cohorts. Most of what we're seeing in the P&L now is due to old cohorts, not first payment defaults, but rather due to some macro deterioration. What we've observed in terms of macros is that there’s a high correlation between monetary tightening and overall delinquency in unsecured credit, influenced by high rates affecting families' capacity to service their debts. Although we don't provide guidance in general terms, our forecast for 2Q '23 indicates a continuation of the current trends in NPLs and cost of risk. We believe this trend will align with general market expectations. In the second half of 2023, we anticipate improved figures due to factors such as enhancements in our underwriting collections model, aging of older cohorts, and a stronger mix in new originations skewed towards existing clients over new ones, which traditionally show better performance due to familiarity. Regarding renegotiations and asset sales, these are routine business operations. We did not have any portfolio sales during the quarter. Thank you, Yuri.

Yuri Fernandes, Analyst

That's great, Alexandre. Just a follow-up. You mentioned the 2021 cohorts, which are a very short-term product. These clients were likely underwritten under a higher risk appetite back in 2021. For these clients that once performed well but now exhibit weakness, should we expect to see continued deterioration from these older clients? Credit card products tend to clear out quickly, so will the portfolio clean itself up swiftly if that’s the case? Or if the issue was due to riskier client additions, can we expect to see this trend persist?

Alexandre De Oliveira, VP of Tech Operations and Finance

Yuri, that does make sense, but there are a few things I'd like to clarify. First, regarding the FPD, or first payment defaults, which indicate the quality of recent underwriting. We've improved this metric by over 50% last year. This suggests that we expect improved NPL figures as we move forward, as demonstrated in the cohorts shown in the presentation. What we're experiencing in the 2021 cohort relates to a different dynamic. We typically see the maturity of a credit card cohort in approximately 36 months. Not every client becomes delinquent in the first few months, especially with macroeconomic conditions deteriorating, which might impact older clients down the line. However, we should see improvements as time passes, leading to more stability in the long term. Let me know if that was clear.

Daer Labarta, Analyst

The question has already been addressed, but I have another inquiry regarding expenses. Good job particularly on the cost-to-serve. Is there room to improve this further, or do you believe this has become a new recurring level? Also, in terms of profitability and capital, we noticed capital levels dropped slightly this quarter, but still less than in prior quarters. When do you think you'll be able to start generating capital? In other words, do you still believe you'll meet your long-term ROE target of 30%, and can we expect to generate capital by the end of the year, indicating sufficient profitability to achieve that?

João Vitor Nazareth Teixeira de Souza, CEO

Joao Vitor speaking here. Concerning expenses, which ultimately drive our cost-to-serve, we are making significant improvements on two fronts. Firstly, we started the year with 4,100 employees, and we're now slightly below 3,700. This evolution has occurred through adjustments in CAC and not replacing staff who leave. We aim to maintain flat expense levels throughout the year. Secondly, we seek to establish a proper management structure, working with advice from BCG on this front, which we expect will help further drive down our personnel expenses. I'm excited about our progress but believe even more improvements are possible in the coming quarter. Alexandre will address the rest of your question.

Alexandre De Oliveira, VP of Tech Operations and Finance

From the capital perspective, Daer, we're excited about the trends we're observing. We see a strong buffer of 2x relative to the large incumbent banks, which is composed entirely of top-quality CET1. With regards to organic capital creation, as we see ROE strengthening, we expect to begin creating organic capital to fund further growth. As mentioned in January during our Investor Day, we anticipate achieving a fully funded business plan from a capital standpoint. As ROE builds up, coupled with reduced capital consumption from loan growth, we foresee these two factors aligning, facilitating better organic capital generation. Thus, we're comfortable in this aspect, and the sequential improvement in net income will support funding for this business plan.

Daer Labarta, Analyst

Just to follow up regarding the inflection point. Are you expecting this inflection to occur this year? I believe you mentioned capital would reach around 20% by year-end. Is that still accurate? Do you think we’ll see a level of profitability that allows you to generate your own capital, or will this likely happen next year?

Santiago Stel, Strategy and IR Officer

While we don’t provide guidance on profitability, which indirectly addresses your question, I can say that we expect continued sequential improvement in net income linked with loan growth. We started the year aiming for a 20% annual loan growth rate, which translates to 5% quarterly. We'll monitor macroeconomic conditions to determine if we can exceed this figure. We would prefer to achieve a bit more than 20%, but we expect to remain in that range. This expansion in net income, along with this loan growth level, is projected to sustain capital levels around 20% throughout the end of the year.

Flavio Yoshida, Analyst

My question is regarding NII trends moving forward. This quarter, we noticed that loan portfolio growth has decelerated while low spread lines, such as real estate and payroll loans, were more resilient. This suggests weaker NII moving forward. However, you have shown strong repricing efforts that are driving NII up. How should we interpret the NII outlook, given these nuances?

Santiago Stel, Strategy and IR Officer

Thanks, Flavio, for the question. We are genuinely excited about the dynamics we are witnessing regarding NIM. It's notable that we recorded the highest NIM in Q3. We've reduced the size of the lower-yielding portion of our portfolio, particularly the supply chain finance and prepayment card receivables. The mix of new originations has shifted towards home equity and inflation-adjusted loans. On payroll, we're originating loans at rates of 1.75% or higher. For SMEs, we have increased rates by 100 to 200 basis points on new originations. As you saw with the FGTS, we had a monthly rate of 2.15%, which is gaining critical mass in the overall portfolio. Collectively, these factors are working favorably. We've been recording NIM expansions of 20 to 30 basis points. We do not provide guidance on future trends, but we believe past performance serves as a good indicator of what to expect going forward.

Neha Agarwala, Analyst

I believe my question has been answered, but I would like clarification on loan growth and cost of risk guidance for the year. For loan growth, do you maintain that 20% as an annual target? Is there potential for it to be higher? Regarding cost of risk, how much improvement can we expect during the year? Will most of this occur in the second half of the year?

Alexandre De Oliveira, VP of Tech Operations and Finance

Thank you for your inquiry. This is Alexandre speaking. To answer your second question, we indeed anticipate more stability as the year progresses. With expectations for the macro environment and improvements in our underwriting collections as older cohorts mature, we may see enhancements in cost of risk during the second half of the year. Regarding loan portfolio growth, as Santiago mentioned, we operated the first quarter at about 5% growth, which is 20% on an annualized basis. While this is slightly below our expectations, it's a strong position amid challenging macro conditions observed in the first quarter. As we notice the current tensions in the market easing, we may see a more aggressive growth trend towards the volumes discussed during our Investor Day earlier this year, potentially trending towards the 40% target.

Neha Agarwala, Analyst

If I may add one more question regarding costs. You’ve reported good performance in terms of efficiency and reducing your cost-to-income. What other factors do you see as potential levers to further reduce the cost-to-income ratio? What is your target for this by the end of the year?

João Vitor Nazareth Teixeira de Souza, CEO

Neha, Joao Vitor speaking. Yes, we also have other initiatives underway on that front, and I would categorize them as low-hanging fruits. We are in the midst of renegotiating some significant contracts, including those related to Mastercard, AWS, Salesforce, and call centers, which should help reduce our cost to serve. Furthermore, we still believe we have room for improvement with our personnel. Combined with enhancements in NIMs and pricing, these initiatives should bolster our profitability. I am convinced that we can further reduce the cost to serve. We aim to increase the number of active clients per employee, which is a key metric for us. Overall, I believe we will achieve significant improvements in this regard, though we do not provide specific guidance on this.

Eduardo Rosman, Analyst

Congratulations on the quarter. We appreciate the improvement in efficiency and capital performance. I have a quick follow-up regarding Tito's question. Given the repricing efforts, the better cost control, and the notion that interest rates have likely peaked, should we expect to see growing profits on a profit before taxes basis? I acknowledge the visibility on recent results was somewhat below expectations, but do you believe that visibility on future results has improved?

João Vitor Nazareth Teixeira de Souza, CEO

Joao Vitor here. You are correct that the last five years for Inter focused on building solid foundations. This included considerable upfront investment in team development, platform enhancement, and feature integration, along with our IPO activities. Moving forward, as I mentioned in the presentation, we are adopting a more cautious and strategic approach to pricing, capital deployment, and operational efficiencies. This signifies a new momentum for the company, referred to as the next five years. I am confident that we will consistently improve our profitability, driven by prudent capital utilization, cost control, and pricing strategies. When we combine these factors, we should see quarter-over-quarter improvements in ROE and overall profitability. Our dedicated team is committed to these goals, which enhances our chances of reaching them. Therefore, I am very optimistic and confident in our trajectory towards achieving robust ROE and profitability.

Santiago Stel, Strategy and IR Officer

This concludes our question-and-answer session. Now I turn the floor back over to Mr. Joao Vitor Menin for his closing remarks.

João Vitor Nazareth Teixeira de Souza, CEO

Thank you, operator. And I'd like to thank everyone for participating in our earnings call. Again, I'd like to express my gratitude to the entire team here at Inter for their hard work every day to improve our business. We hope to see you again in three months. Thank you very much. Goodbye.

Operator, Operator

The conference has now concluded. The Inter IR area is at your disposal to answer any additional questions. Thank you for attending today's presentation. Have a nice day.