Karooooo Ltd. Q2 FY2021 Earnings Call

Good day and thank you for standing by. Welcome to the Karooooo First Quarter 2022 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers' presentation, there will be a question-and-answer session. Please be advised that today's conference is being recorded. I'd now like to hand the conference over to Mr. Zak Calisto, CEO, Founder. Thank you. Please go ahead, Sir.

Thank you, AJ. I want to thank everybody that made time for our presentation, Q1 FY'22 results. I will go through the presentation, and clearly, at the end I will answer as many questions as I possibly can. I founded the company in 2001. We launched in South Africa in 2004, and during April this year, we expanded to Singapore and transitioned to Karooooo, which is now 100% of our contracts as of April this quarter. Since we started the business in 2004, we have always believed that all vehicles will be connected and integrated with all aspects of mobility in the future. This has taken much longer than anticipated, but our mission is certainly to be the leading mobility platform that maximizes the value of time. With over 76,000 commercial customers and approximately software subscriptions, we collect over 58 billion data points on a monthly basis. This comprehensive data comes from customers in various industries and geographies using different types of vehicles. All of this data allows us to contextualize various business practices and fundamentally supports our business intelligence and predictive analytics for our customers, whether they're in fleet management or the insurance industry. We collect data from proprietary media, and we also gather data from third-party vehicles, store the data, and process it to create value. We have APIs into third-party systems where we push and receive data from. We've maintained a consistent history year-on-year, quarter-on-quarter, consistently increasing our customer base and subscribers. Our revenue growth is also consistent, and our operating profit has been growing steadily. Our EBIT fluctuates over time, but the overall trend is upward. We adopt a strong financial discipline, constantly monitoring our processes daily. We're fortunate that our business model is based on annuity revenue, with 97% of our revenue stemming from subscriptions, which gives us significant confidence in our revenue outlook. Our subscriber growth this quarter compared to the previous year's quarter grew by 21%. Revenue growth increased by 17%. On a constant currency basis, we saw a 22% growth. Importantly, our subscription revenue grew by 20% on a constant currency basis. Our revenue now stands at ZAR2.5 billion, an 18% increase. We've encountered currency challenges over the past year, with the South African rand's fluctuations impacting our operating currencies. In US dollars, we have seen a 51% increase, amounting to $181 million, primarily led by the appreciating South African rand. We had a strong Q1, with a 760% increase in mid-subscription additions. This might seem out of context given that Q1 last year was at the onset of COVID, which made it a challenging time. While times are still tough, we are adjusting our trading approach in this current environment. Looking back at Q1 FY'20, our net quarterly subscriber additions still exceeded 100%, and the last three quarters have been very strong in terms of adding net subscribers. Typically, Q1 is not the strongest quarter due to various holidays. Therefore, we are quite content with the results and achievements in Q1. We continue to see growth in our customer base. Notably, we are observing some downsizing among customers due to COVID, where a customer that once had 50 vehicles may now only have 20. However, our commercial customer retention remains robust at 95%, and we have very low industry and customer concentration risk. Our largest customer accounts for less than 1.7% of our revenue, which is less than 1% in terms of the bottom line, largely due to discounts. Our operating activities cash flow is up 90% compared to Q1 of FY'21. With growth comes increased investment in PPE, witnessing a 77% growth in this area. Our free cash flow has decreased by 12%, primarily driven by investments in our business growth. One of our key advantages over the years is our significant improvement in our ability to acquire customers and retain them. The vehicles are the subscribers, and we closely monitor how long our customers maintain their vehicles on our platform. In Q1 this year, our average revenue per user (ARPU) dropped slightly from ZAR155 to ZAR151, mainly due to the strong rand and some customers in Asian countries and Africa who were not using their vehicles during the holiday seasons. Despite the drop, on a constant currency basis, our ARPU has actually increased from last year, remaining in the range of ZAR150 to ZAR160. Our subscriber contact cycle remains consistent at just over 60 months. We're observing a significant decline in our subscriber acquisition costs from ZAR2,636 to ZAR2,005, though this decline is partly due to fewer overheads from less sales staff last year due to COVID. At this point, our productivity is still not at the expected levels due to onboarding a substantial amount of new staff, yet we have seen consistent improvement. Overall, our capitalized costs have dropped from ZAR1,624 to ZAR1,489, reflecting our new generation telematics hardware. Subscription revenue growth profit margin has fell to 72% from 74%, driven primarily by lower ARPU due to currency exchange rates. It's noteworthy that the upfront costs we incur are usually related to customers we've onboarded, who will require a second cycle of vehicles where we don't need to incur further costs. Our operating environment is highly underpenetrated, with estimates suggesting South Africa has over 10 million vehicles. We currently have just under 1.1 million vehicles in our network, putting us at roughly 8% market penetration. We believe we can sustain significant growth for another five years before experiencing any slowdown. In Africa, we believe we have about 62,000 vehicles, and while it hasn't been a priority, we plan to increase our focus there in the coming years. Southeast Asia offers a massive opportunity, with over 100 million vehicles; however, we've only managed 124,000 vehicles so far. Our growth in Asia was hampered by COVID, and while we initially anticipated a quicker turnaround, the reality is that many markets are closing again. In Singapore, for instance, new restrictions have pushed people to work from home again, thus complicating trading conditions. We remain well positioned for growth in Asia once the markets reopen. Over the past quarter, we have employed about 150 staff in Asia in preparation for expansion. We've also relocated some existing staff from the U.S. and South Africa to Singapore to bolster our local team, aiming to build momentum moving forward. Europe also represents a significant opportunity for investment, though fluctuating conditions there have kept us cautious. We'd prefer to wait until after the winter season this year to make substantial investments in Europe, similar to how we've approached growth in South Africa over the last six to seven months, where we employed around 650 people. For our subscribers, this quarter showed growth in South Africa by 22%, 5% in Africa, 14% in Europe, and 17% in Asia. We've heavily invested in growth, with sales and marketing capital allocation increasing by 71%, R&D by 44%, and G&A by approximately 21%. While G&A growth reflects expansion costs in Asia and South Africa, we expect to see the returns from these investments in the coming months. Many of the new hires will take time to reach full productivity, especially considering knowledge transfer is slower due to COVID. We are excited about the future as we anticipate better results by Q4 of this year. In terms of our operating metrics, subscription revenue increased from ZAR526 million to ZAR606 million, ARPU decreased from ZAR155 million to ZAR151 million, while our gross profit margin has dropped from 70% to 71%, primarily due to foreign exchange impacts on ARPU. R&D expenditures increased from 4% to 5% of subscription revenue, and sales and marketing expenses rose from 10% to 15%. G&A costs moved up from 20% to 21%. Our adjusted EBITDA margin last year was 50%, dropping to 44% this year, aligning with our expectations. We believe the adjusted EBITDA margin will rise above 45% by the end of the fiscal year. Our outlook remains unchanged from the end of FY'21, targeting subscribers between 1.5 million and 1.6 million, subscription revenue between ZAR2.5 billion and ZAR2.7 billion, and an adjusted EBITDA margin between 45% and 50%. It's worth noting that our ARR stands at ZAR2.5 billion as of May. On that note, I'd like to thank everyone for taking the time to listen to us, and I'll now open up for questions.

Question number one, from Deepa Malhotra.

What do you think about expanding into mature markets like Europe and the U.S.? Don’t you think it’s too risky, or do you believe your competitive advantage is strong enough to compete in such markets? If so, what concerns do you have?

That’s quite a long question. We've established a very small office in the U.S. The U.S. market is exciting and full of opportunities; however, I feel we are currently spread too thin to tackle it effectively. In Europe, we have a competitive edge and we've won substantial business there; this is an area where we want to invest further. Regarding the U.S., our best approach might be through an acquisition or merger down the line, as we currently have too much on our plate.

Next question: What was the impact of COVID restrictions during the period? Do you think your net additions would be higher if there were zero COVID restrictions in your operating regions?

I don’t have a crystal ball, but my gut feeling is that, under normal circumstances, we would have grown significantly faster than we are right now. We focused on the markets that were easiest to trade under COVID. South Africa has remained open like the U.S., while Europe was semi-open and Asia remained quite closed. We focused where we could do better, and the results reflect that. With the conditions of COVID, our management goals would suggest we should be performing better.

Great subscriber growth. Can you provide more color on the geographic breadth of your sales and marketing spend? Where are you allocating this extra money and when do you expect to see results from this investment? Also, considering the current travel restrictions, is your team able to operate in the region?

Travel restrictions have made it very challenging, and our profile has changed quite a bit. Unfortunately, it's tougher now than it was three months ago. We are primarily spending our sales and marketing budget in South Africa and a bit in Asia. We plan to focus on Europe in about two quarters, after seeing the post-summer situation in Europe. Once Asia reopens, we aim to allocate significant capital there as it represents a big opportunity. As of now, doing business there remains difficult, especially without a strong local presence.

Could you discuss the seasonality inherent in your quarters in a normalized environment?

Our business is somewhat seasonal, although our two weakest quarters tend to be Q4 and Q1 due to various holidays, particularly in South Africa. These holidays reduce our trading days, which slightly impacts our performance. The less trading days, the more significant the effect.

AJ, can you ask the questions from Mike from Canaccord? Mike, your line is open now. You can ask your question.

Congratulations on the strong start to fiscal '22 despite some markets being more locked down than you anticipated. Can you discuss how regions, such as Southeast Asia, could reaccelerate growth with the additional sales and marketing headcount you've added over the past year?

Our sales efforts have largely focused on South Africa. However, we've added about 157 new employees in Asia in anticipation of the market opening up. Our management is confident about performing well in Asia, and we intend to coordinate better distribution as we grow. Our operational reach is quite limited in Asia, but we are optimistic about the progress we can make in the future.

Are you noticing any changes in the competitive dynamics in South Africa, especially considering some companies in the sector have made headcount reductions?

The South African market is highly competitive, and we keep an eye on our peers. However, we are successfully growing our business, even with only 8% of the overall market, and we believe we can continue this upward trajectory.

Regarding social unrest in South Africa, has it impacted your business this quarter?

There has certainly been an impact due to social unrest this quarter, affecting profit losses for about two weeks. However, things have calmed down, and we are back to normal. We believe this will be manageable, and our plans for August remain aggressive.

Thank you, and best wishes for ongoing success.

Could you provide commentary regarding your supply chain and inventory levels?

Currently, I don't foresee any constraints on our growth from inventory levels. We have sufficient stock to conduct regular business, and if we encounter a situation with extended inventory in the next financial year, we will adjust accordingly. Overall, we feel confident in our supply chain during this financial year.

Can you discuss some of your newer growth initiatives, like your insurance initiative?

Our insurance initiative is on the horizon, and we're targeting a Q4 launch. COVID has delayed our progress, but we are conducting tests now. We are optimistic about its potential and anticipate significant business growth over the next few years.

Can you discuss growth coming from larger fleets versus smaller ones? Are you changing strategies to attract larger fleets?

Currently, large fleets represent a small fraction of our vehicle park worldwide. We prioritize small and medium enterprises initially, then transition into larger fleets. While we are seeing success among large fleet conversions from competitors, our main focus remains on small to medium enterprises for now.

What improvements can you mention regarding Africa outside of South Africa? Are there leverage points for growth?

Expanding into Africa hasn't been a primary focus for the last few years. We've begun investing more effort but COVID has complicated travel and direct engagement. Ultimately, the real growth will come from regions outside Africa in the next two to three years. We are working on a notable deal with Toyota for the African market, and while we are investing in that relationship, our primary targets are Asia and Europe currently.

Have travel restrictions impacted your operations, and can you share details about your adjustments for remote operations?

Travel restrictions have affected more than just sales and marketing; it's a comprehensive issue. We had strong teams in Singapore and Thailand but are encountering barriers in onboarding and training staff remotely. With the global landscape of COVID, our focus may shift more toward boosting our presence in Europe and South Africa, depending on how situations evolve.

Can you discuss the decreased unit cost of acquiring subscribers? Is this sustainable?

I believe a cost decrease is sustainable to a certain extent. I’ll provide additional details to clarify these changes in due time.

Could you elaborate on your success in acquiring corporate clients in South Africa?

We perform well on both fronts: business and consumer. We are steadily onboarding more business clients, and we anticipate continued growth in that sector as our strategies align with market needs. I want to thank everyone who joined today. Looking forward to speaking to you again in about three months. Thank you, and goodbye.

Thank you. Ladies and gentlemen, that concludes the conference for today. Thank you for participating. You may all disconnect.