Earnings Call Transcript - NOAH Q1 2022

Operator, Operator

Hello and welcome to the Noah Holdings 1Q 2022 Earnings Conference Call. All participants are in a listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Jingbo Wang. Please go ahead.

Jingbo Wang, Chairlady

Okay. Thank you. On the agenda of today's conference, I would like to talk about the micro review first and then report on the overall performance of Noah Holdings in the first quarter of 2022 and the developments of main business segments. Then let's invite our CFO, Mr. Qin Pan to introduce the quarterly financial information, followed by an interactive Q&A. I'd began 2022, Noah and Noah's clients finished on a risk-off mode. Noah's clients, relationship managers and investment managers may have never experienced a complete multifactor superposition cycle of continuous hikes in interest rates, credit expansion, liquidity collapse, and massive excess credit. At the beginning of 2022, we realized that under strong headwind, aviation will be a challenge. In the first quarter of 2022, we spoke with relationship managers and clients repeatedly and emphasized that no one was transformed when entering this theater, but many people felt pressured when they came out. In the first quarter of 2022, we suggested Noah's clients re-examine the asset allocation of themselves and their families, actively rebalance the asset allocation, and make it safer and more effective from the perspective of protection over growth. The ongoing war between Russia and Ukraine is worrying, but as a professional institution of growth management, we advise our clients to remain rational. Under this dilemma, the only certainty is that the market will continue to fluctuate. This market environment is not suitable for markets committed by managers and clients. Avoiding risks has become a better choice. At the beginning of the New Year, Noah's strategic allocation strategy for clients is protection first, then growth. Since the sub-prime mortgage crisis in 2008, the global long-term quantitative easing policy and abundant liquidity have caused huge inflation of risky assets. As asset inflation has permeated every corner of the world, the reversal of quantitative easing policy has begun, and the Federal Reserve and other countries have started multiple interest rate cycles. A shift from quantitative easing to quantitative tightening will be a challenging adjustment as the rapid withdrawal of liquidity turns asset inflation into asset deflation. In 2021, many industries in China faced stricter supervision and frequent policy changes, leading to fundamental changes in valuation logic. Our view is to delay questioning and judgment on China's economy. Quick judgment is often a simple cognition based on intuition, while delayed judgment aligns with complex cognition. The issues surrounding China's economy are undoubtedly complex, and delayed judgment might be prudent. On the whole, China’s direction is shifting from emphasizing efficiency to fairness, encouraging scientific and technological entrepreneurship, ensuring the safety and controllability of key technologies, promoting China's high-quality economic development in the future, and encouraging social funds to move into early science and technology initiatives. From the perspective of investor asset allocation, allocating a portion of their capital to early science and technology funds is an inevitable choice given the inevitable monetary easing and inflation. In the first quarter of 2022, the theme word of asset allocation suggested by Noah’s CIO is protection over growth. We advise Noah's core clients to start from four aspects. First, reassess their asset allocations and focus on protection and segregation. Secondly, for the domestic public securities market, we recommend allocation towards multi-strategy return forms, aiming to reduce volatility and pursue dividends from a protective perspective. Finally, current equity investment funds are the main asset category for high-net-worth clients. We suggest a strategic allocation to science and technology and prioritize early industry funds that have experience navigating cycles and specialized opportunities. From the perspective of long-term asset growth, such asset allocation is crucial against the backdrop of ongoing monetary easing and inflation, even at the cost of liquidity. I want to emphasize that Noah is rooted in private banking, focusing on high-net-worth individual clients, meaning our primary concern is understanding our clients' needs and ensuring the safety and profitability of their assets. The evolution from product-driven to client-centric has a far-reaching impact on Noah's strategies and management model. Finance is a strict eco-industry. During every financial crisis, large financial firms shut down, and client assets considerably shrink. As the operator of Noah, when we make key fundamental decisions, our first criterion is survival; we must avoid mistakes. While mistakes in investments and asset allocation are inevitable, we should allow time for correction and acceptance. In the first quarter of 2022, facing a highly complex microenvironment, Noah adopted five core business strategies: First, completely reduce costs; second, utilize multidimensional services to engage clients while aiming to recover lost clients and increase the wallet share of existing ones; third, develop new products that meet the protective needs of clients and address post-pandemic requirements; fourth, maintain productivity; and fifth, build strong interpersonal relationships among clients, employees, suppliers, governments, and medical institutions. In the first quarter, our operating costs fell sharply by 33% year-on-year and 57% quarter-on-quarter. The operating margin reached 39.4%, down 1.6% year-on-year, but significantly up 29% quarter-on-quarter. In 2022, our asset allocation strategies for clients remain protection over growth, client-centric, and survival focused. In this quarter, GAAP net income attributable to shareholders was RMB310 million, down 32% year-on-year but up 8% quarter-on-quarter, reaching 22% of annual guidance. In the first quarter of 2022, Noah achieved net revenue of RMB796 million, down 35% year-on-year and down 37% quarter-on-quarter. The total transaction value for the quarter was RMB15 billion, down 45% year-on-year and down 29% quarter-on-quarter. Among these, it's noteworthy that private secondary funding decreased by 69% year-on-year and 40% quarter-on-quarter, mainly due to our initiative to reduce the launch of such products amid market volatility. The transaction value of private secondary products was RMB4 billion, primarily consisting of CTA strategy and reverse strategy. The transaction value of mutual funds was RMB7.1 billion, mainly pertaining to monetary funds and interbank certificate of deposit funds. For the mutual fund 2B business, we now offer more than 10,000 funds, providing clients with a broader product selection. Small treasury now serves over 200 institutional clients across various industries such as automobile, manufacturing, and technology. The transaction value of private equity funds stood at RMB3.2 billion, down 33% year-on-year, but up 5% quarter-on-quarter. In terms of international business, we took the same approach by significantly reducing product launches and allocation in the secondary market, focusing instead on protective strategy and primary market funds. The net income of the overseas sector reached RMB190 million, down 44% year-on-year but up 2.3% quarter-on-quarter, accounting for 24% of the group's total revenue. The overseas transaction value came in at RMB2.4 billion, reflecting a year-on-year decrease of 35% but a quarter-on-quarter increase of 3%, which represents 16% of the total transaction value of the group. The overseas AUM was RMB29.1 billion, marking a year-on-year increase of 12% and a quarter-on-quarter increase of 3%, accounting for 18% of the group's total AUM. I'd like to reiterate that the decline in transaction value and AUA of public securities in the third quarter of 2022 is a market behavior of Noah to protect client assets and proactively adjust product launches. In the first quarters of both 2021 and 2022, Noah's core perspective emphasizes reducing secondary market product allocations and launches while increasing protective asset allocations to promote healthy inspections of clientele asset portfolios. The strategic asset allocation prioritized protection over growth. Due to new short-term regulatory policies, the transaction value of protective assets in Q1 2022 was RMB700 million, down 17% year-on-year and 40% quarter-on-quarter. We believe the allocation of these assets will improve in the second quarter. In Q1 2022, Noah continued to appeal to the strategy of advancing client management, growing the number of core clients, Diamond and Black Card clients to nearly 8,300, a record high. The number of Black Card and Diamond Card clients increased by 31% and 7.3% year-on-year, collectively representing a 12% growth year-on-year. Client growth remains a crucial strategy for Noah in 2022, as we have also established project goals to recover lost clients and reactivate dormant clients while identifying core client demands and addressing their pain points. At the headquarters level, we focus on transforming clients from standardized offerings and use multi-strategy funds as stabilizers to meet conservative asset demands. The net income from the asset management segment in Q1 2022 was RMB200 million, down 26% year-on-year and 27% quarter-on-quarter. One-time commission and performance-based income decreased, while recurring service fees increased by 5% year-on-year, reflecting the capability of long-term assets to generate sustainable income. Focus AUM increased slightly to RMB156.1 billion compared to last year end, of which private equity saw a slight increase to RMB132.7 billion. The AUM of public securities is slightly reduced to RMB10.4 billion. The asset structure is healthy and aligns with our expectations. In the first quarter, considering the sharp price fluctuations of Chinese ADR, the war between Russia and Ukraine, the domestic microeconomy, and COVID-related lockdowns in Shanghai, we conducted a cash flow survey and evaluated the net value of all primary market funds and direct investment projects. We adopted a more cautious investment strategy and strengthened exit management. Gopher’s domestic early-stage industry funds, special opportunity secondary funds, and Gopher's U.S. teams directly managing American Silicon Valley data funds and American rental apartment funds performed well overall, creating client value amid market volatility. For public securities, by Q1's end, Gopher's standardized products also displayed robust investment performance. Notably, the annual return of Gopher's mega channel manager of manager’s funds was 10.7%, exceeding the benchmark return rate by 9.7%. The annual return of the top 30 funds was 11.1%, surpassing the benchmark yield by 4.5%. It's noteworthy that all three types of Gopher's stabilizer target strategy funds—active, balanced, and stable—continued to outperform the relevant industry averages amidst market fluctuations in Q1. Since establishment, their accumulated returns have been effectively controlled compared to the CSI300 and CSI800 benchmarks. Noah, headquartered in Shanghai, has been managing through challenges since entering a phase of network lockdown in March. When lockdown commenced, Noah established several academic crisis management project teams. The management team oversees overall governance during key decision-making, while the academic situation assessment team conducts real-time evaluations of developments across regions to provide insight for decision-making. The academic communications team ensures timely and transparent communication of latest company policies to management. The emergency response team formulates policies linking employees, clients, governments, and public welfare according to evolving circumstances to minimize the epidemic’s business impact. Additionally, the post-epidemic recovery team coordinates assets, wealth management, and international intelligence efforts to adjust marketing strategies based on evolving needs and prepare for post-pandemic growth. In the last 40 days, Noah has delivered over 500 grocery and medicine trips to employees in Shanghai, provided medical support to infected staff, and over 1,200 trips of supplies to core and elderly clients. Simultaneously, Noah coordinated resources to meet client medical needs, linking Gopher’s portfolio firms to supply patients with essential medications during these times. We also offered psychological counseling services for clients and employees, acquired medical materials and donated them in bulk to Shanghai's health system, hospitals, police stations, quarantine centers, and community fronts. More than 20 Noah employees have remained on-site, ensuring business continuity throughout this crisis. Noah's commitment to clients, employees, and suppliers, reflecting a sense of responsibility towards society, has gained considerable recognition. With professionalism and empathy, Noah strives to support clients across generations. Before 2019, leading product offerings were among Noah's core strengths. Since the second half of 2019, there has been a comprehensive transformation from a product-driven focus to a client-centric approach, with survival as the baseline. We firmly believe that placing clients at the center, aligning interests with clients, and establishing organizational capabilities for client-centricity is vital to avoid scaling for scale’s sake, commission-centricity, or self-centeredness. With nearly 18 years of experience in wealth management, Noah understands that success requires a robust ability to connect with clients in addition to a compelling asset allocation strategy. In the past, not all employees in China's wealth management sector were adequately professional and industry standards were unclear. In the first quarter of 2022, we weathered various challenges and tensions in the microenvironment, and it is precisely in confronting difficulties beyond many people's expectations that Noah's commitment to our clients stands out. The number of participants in our online sessions spiked significantly, with live viewers accessing the Noah app increasing by 98% year-on-year and the overall viewership by 210%. Smaller video conferences with clients have gained popularity, enabling relationship managers to gain more in-depth understanding of client sentiments. This reflects the warmth of the Noah brand. Leveraging our strong financial standing, we have continued to invest significantly in client interactions, brand reputation, and outreach to attract external talent as we look to the future. Now let's invite Qin Pan, CFO of the group, to introduce the detailed financial performance of the quarter. Thank you.

Qin Pan, CFO

Thanks, Chairlady. Hello to investors and analysts. As Chairlady Wang mentioned, the first quarter of 2022 has been challenging, influenced by lingering impacts of the COVID-19 pandemic, uncertainties in macro conditions, regulatory changes, and geopolitical factors. These influences manifested in a challenging capital market environment, with the MSCI overseas China down 23%, the Shanghai securities composite index down 11%, and NASDAQ and SP500 down 9% and 5% respectively. The onset of negative volatility started to pressurize the equity market since the second half of last year, leading to a 74% year-over-year decline and a 57% quarter-over-quarter decrease in new mutual fund issuances during Q1 2022. Nevertheless, Noah managed to navigate these challenges with a client-centric mindset, enlarging our black card and diamond card client group, making significant strides in our client segmentation strategy, and achieving an 8% quarter-over-quarter increase in non-definite income, paired with disciplined operational expense management while remaining dedicated to essential investments. Now, let me walk you through detailed results for the first quarter. Due to lackluster equity market performance as well as adjustments in our secondary product distribution strategy, as mentioned by Chairlady, client investment sentiment softened, resulting in a drop in one-time commission income due to decreased transaction value from RMB27 billion in Q1 2021 to RMB15 billion in Q1 2022. Carrying income also fell compared to the record-setting quarter one in the previous year, resulting in overall net revenues of RMB796 million for Q1, reflecting a year-over-year decline of 35% and a quarter-over-quarter drop of 37%. One-time commissions declined to RMB102 million due to reduced transaction value amid challenging market conditions. The distribution of insurance products slowed during the quarter, as necessary adjustments were made in compliance with the new regulation established by the China Banking Insurance Regulatory Commission in October 2021. Our team has managed to complete these adjustments in compliance with the new rule during Q1, leading to resumed distribution of our insurance products to clients, with financial impacts expected to reflect in second quarter results. The stabilizing revenue stream, which comprises recurring service fees, remained steady at RMB484 million—up 1.9% year-over-year but down 13.3% quarter-over-quarter, mainly due to NAV adjustments made to public security products. Performance-based income remained stable at RMB174 million from the previous quarter. The transaction value for the quarter was RMB15 billion, down 45% year-over-year and 29% quarter-over-quarter due to a pivot to risk-averse sentiment among investors amid growing macro policy and geopolitical uncertainties. As a wealth management firm and trusted advisor to our clients, we believe that maintaining ongoing communication with our clients and guiding them through this turbulent and volatile market is paramount. I'm pleased to report we have excelled in that area. Growing our core clients, particularly Black card and Diamond card clients, remains our foremost strategic endeavor this year. We’ve seen a 12% growth in this client group year-over-year, notably with Black card and Diamond card clientele up by 37% and 7%, respectively, from the previous year. Implementation of a more targeted client segmentation strategy and operational enhancements in key cities has facilitated this achievement. Furthermore, through our mutual fund platform, Smile treasury platform, we have made substantial progress in acquiring and engaging corporate and institutional clients, seeing a 33% increase in active corporate institutional clients quarter-over-quarter and an 88% year-over-year increase in mutual fund product allocations for these clients. As Chairlady Wang highlighted, we believe there lies a large yet underserved market for treasury management services catering to small and medium-sized enterprises. We will continue exploring this market segment via our staff solution platform and will leverage our comprehensive product line and established service network. Income from operations was RMB314 million during the quarter, reflecting a 137% quarter-over-quarter increase but a 38% year-over-year decline, as the prior year's first quarter benefitted significantly from a strong performance-based income. Operating margin improved to 39% from 11% in the previous quarter, thanks to reduced compensation costs and stringent management of various operational expenses. Compensation-related expenses totaled RMB358 million, down 39% year-over-year and 51% quarter-over-quarter as relationship manager commissions lowered due to diminished transaction volume. Investment income reached RMB25 million as we recorded fair value appreciation of our principal investment in our capital network. Non-GAAP net income was RMB313 million, down 32% year-over-year but up 8% compared to the prior quarter. Looking at our segmented results, wealth management segment net revenues recorded RMB578 million, down 39% year-over-year and 40% quarter-over-quarter due to a decrease in transaction value during the quarter. Net revenues from the asset management segment were RMB201 million, down 26% year-over-year and 27% quarter-over-quarter due to lower performance-based income. Total AUM stood at RMB156 billion, a flat result from the end of last year as the increase in private equity AUM was largely offset by adjustments in public securities and continued exits in real estate products. Turning to balance sheets, we remain in a healthy liquidity position with a current ratio of 2.6 times. Our debt-to-asset ratio remains at 23% with no interest-bearing debt, and by the end of Q1, we had RMB3.9 billion in cash. Supported by this strong balance sheet, we were able to continue delivering high-quality services to our clients during this challenging macro environment and the residual impacts of the COVID-19 pandemic. Given the recent volatility, we have published our first edition of the Noah CIO report, aligning our global macro insights and recommendations for clients to adopt a protection-first and growth-conscientious strategy for 2022. In the subsequent detailed solution strategy reports, our relationship managers are better equipped with investment solution recommendations tailored to various market scenarios and client profiles, transitioning from a product-driven model to a client-centric and solution-driven model. We anticipate further progress towards enlarging our institutional client base through our treasury service platform, presenting synergistic opportunities for individual wealth management services in the years ahead. Thank you all for your attention. I will now open the floor for questions.

Operator, Operator

We will now begin the question-and-answer session. First question comes from Ethan Wang from CLSA. Please go ahead.

Ethan Wang, Analyst

I have two questions. The first is on the redemption of the asset management products. We understand that in the first quarter, the entire industry is suffering from product sales. Have we seen any signs of material redemption in the products, especially across different tiers of clients? My second question is regarding the fee levels. I wanted to check with management whether we have seen any pressure on the fee level while negotiating with management companies.

Jingbo Wang, Chairlady

Okay. I'll provide a brief translation of what Chairlady has said to augment some of my input. To your first question, Ethan, I greatly appreciate your inquiry about Shanghai; we're doing okay. To address your first query, I would say it indicates a strategic reallocation between strategies; in regards to potential large redemptions, we have not seen significant outflows. Since last quarter, we have been promoting a protection-first allocation strategy, resulting in reallocations rather than net outflows from a single fund, typically reallocating from long-only funds chasing market alpha to more balanced funds like CPA and mutual strategy—particularly multi-strategy funds. Concerning fee pressure from fund managers, it primarily hinges upon their performance. If a considerable number of clients experience dissatisfaction, they may face downward pressure on fees. However, among our suppliers, we have not encountered much downward pressure on fee ratios. We have also initiated preparations for the shifting strategy of fund supply, which we began a couple of years ago, moving towards more balanced portfolios, especially multi-strategy products, and gradually exiting from certain long-only funds. This shift is likely part of why we achieved a high level of carried income in 2021. Nonetheless, regarding negotiations with fund suppliers, we haven't noticed substantial changes unless the fund is underperforming significantly.

Operator, Operator

Thank you. Your next question comes from Emma Liu from Bank of America Securities. Please go ahead.

Emma Liu, Analyst

I have two questions as well. Firstly, regarding insurance sales, you mentioned sales were impacted by regulations issued last October, but you have rectified the situation and expect recovery in the second quarter. Could you elaborate more on how the regulation impacted your insurance business and how you plan to achieve this recovery? My second question deals with the impact of COVID on your business. Given the ongoing lockdowns in China since the second quarter, how do you foresee this affecting your business, and how do you plan to achieve your profit guidance given the tough situation in Q1?

Jingbo Wang, Chairlady

To address the impact of the new insurance regulation, the main issue was an abrupt cutoff compliance date set for December 31, 2021, which resulted in previous online sales ceasing from January 1, 2022. We had been in the midst of permitting applications, which we acquired in the first quarter of 2022. This abrupt regulatory cutoff caused a pause in sales for the first couple of months. Once we obtained our permissions, we would resume sales from the second quarter, with financial results to reflect this recovery. As for COVID impacts, indeed, Shanghai has faced more challenges than other cities, yet we have continued to host client conferences, albeit limited in scale. Amid such circumstances, the desire for connection has increased, leading to stronger interactions with clients. Moreover, we have shown a higher preparedness than competitors in terms of product distribution through online sharing sessions, offering diverse products and services tailored to client's needs under varying conditions. While we anticipate a negative impact overall, the uncertainty has also heightened client anxiety, generating greater willingness to seek safety cushions and more asset allocation options. Though challenging, we view these circumstances as opportunities, supported by a strong balance sheet and liquidity that enables our ongoing investment in client engagement and market share expansion strategies.

Operator, Operator

Thank you. Your next question comes from an unidentified analyst. Please go ahead.

Unidentified Analyst, Analyst

Thank you for addressing my question. It’s pleasing to observe the stable growth in our core client base. I have two questions. Firstly, could you share additional information regarding the progress of our fee business and its contribution to mutual transaction value or revenue? Secondly, could you provide insight into the decrease in the number of relationship managers and the reasons behind it?

Jingbo Wang, Chairlady

Thank you for the question and for your support. I hope everything is going well for you and your family. Regarding Smile Treasury, our institutional mutual fund platform, we officially commenced operations in Q1 and have made strategic efforts to push its development. We see a notable gap in service provision, as the majority of our clients, around 60-70%, are entrepreneurs without adequate experience for navigating market-driven treasury management or money market type funds. Historically, treasury functions primarily served by bank products have seen a shift towards NAV-based products, which are becoming less attractive. As a result, treasurers are compelled to screen through numerous money market and mutual funds, which places Noah in a favorable position to leverage our mutual fund researching capabilities. We have crafted a staff-based solution that simplifies this for institutions. We kicked off our campaign strategically in Q1 and have already onboarded about 250 new clients, with growth remaining robust. Regarding revenue contribution, we expect it to take some time to manifest as it will gradually scale up; however, we're confident of sustained growth in the following quarters. On your second point, the change in the number of relationship managers reflects our strategic shift that began following our transformation in 2019, where the initial priority was on stabilizing our team. Following the completion of this transition in 2021, we have shifted our focus from merely retaining talent to upgrading it. Thus, while the number of managers has fluctuated, it is indicative of our commitment to higher standards by prioritizing experienced and high-caliber talent. Furthermore, we are also observing a trend where previously transitioned clients return to our services.

Operator, Operator

Thank you. Your next question comes from Peter from JPMorgan. Please go ahead.

Unidentified Analyst, Analyst

Thanks for the opportunity to ask this question. I would like to check for updates regarding our Hong Kong-based team. Thank you.

Qin Pan, CFO

Thank you, Peter. Given the pressures faced by Chinese PIs, especially regarding pre-listing prices, we, like other Chinese PIs, have been exploring necessary options. A Hong Kong listing is one clear consideration, but at this point, I cannot provide any detailed comments. I hope you understand.

Operator, Operator

This concludes our question-and-answer session. I will now turn the conference back over to our speakers for closing remarks.

Qin Pan, CFO

Thank you. And thank you all for being here today and for your time.

Operator, Operator

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