Earnings Call Transcript - NOAH Q2 2020

Operator, Operator

Welcome to Noah Holdings' Limited Second Quarter 2020 Earnings Conference Call. All participants will be 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 Chairlady, Wang. Please go ahead.

Jingbo Wang, Chairlady

Thank you, operator. Regarding the teleconference agenda today, I will start with my viewpoint on macro levels, then summarize Noah’s overall performance in the second quarter of 2020, the developments of major business segments as well as the settlement we hope to reach with the client on the Camsing incident. Then Grant will present financial results for the second quarter. This call will be concluded after Q&A at the end. The wealth management industry has been experiencing an underlying transformation in China, which has been accelerated by the COVID-19 epidemic. In my view, 2020 is a critical year for the transformation of Noah. Through organizational capacity building, growing insights and process restructuring, Noah is changing to be more effective in the new environment of wealth management and asset management in China. With a de-leveraging in 2018 and the rectification of chaos in the financial industry in China in 2019, we are tackling the consequences of the epidemic. NAV-based products promoted by the new guidance on standardizing asset management business of financial institutions have quickly developed into the mainstream product in China’s wealth management industry. The remaining demand from clients soared beyond industry expectations. We believe that further investor education and updated client inspections are the keys to NAV-based wealth management. For the segment of wealth management, we have made significant efforts to train product-driven relationship managers as investment consultants. We launched our self-developed mutual fund investment consultancy platform. For the second quarter of asset management, we strengthened our investment research and direct investment capabilities and promoted direct sales and multi-channel institutional sales, all of which have made progress to some extent. Next, I will report the second quarter results on asset management and operational efficiency. Starting from the third quarter of 2019, Noah has seized the opportunity of offering non-standardized single counterparty private credit products and made several transformations to standardize the products for which RMB17.97 billion were distributed in the second quarter of 2020, up 198.5% year-over-year. The transaction value of standardized products in the first half of 2020 reached RMB37.8 billion, increasing more than three times over the same corresponding period last year. Excluding non-standardized single counterparty credit products, transaction value rose by 45.2% year-on-year. This data indicates a preliminary success of the transformation, and the share of non-standardized single counterparty private credit products in transaction value before the transformation has been completely replaced by that of standardized products. In the field of standardized products, our new capabilities are being developed, and we expect more potential for growth in the future. In the second quarter of 2020, Noah achieved net revenues of RMB750 million, up 0.2% quarter-on-quarter, and non-GAAP net income attributable to shareholders of RMB307 million, up 20.1% quarter-on-quarter. The impact of the COVID-19 epidemic on the revenue of overseas insurance sales has been offset by the prominent rally of Asia markets and most successful exits of primary market products, revealing our long-term product screening and direct investment capabilities, once again illustrating the counter-cyclical feature of our business. In the second quarter, the net revenue of the overseas sector was RMB180 million, down 21% year-on-year and down 11% quarter-on-quarter, accounting for 24.7% of the group's total net revenues. In the second quarter of 2020, including mutual funds, there were 14,703 active clients, up 48.7% year-on-year, of which 12,343 were active clients of mutual funds, up 140.3% year-on-year, while the number of black card clients reached 900 as of the end of June 2020, which is an increase of 5.4% year-on-year. A new compensation scheme was implemented for the team of relationship managers in the second quarter. As of June 30, the turnover rate of elite relationship managers remained at the industry's lowest level of 1.4%. The online mutual fund workstation for relationship managers was launched, providing more tools for their business development. In the second quarter, revenue from our insurance business fell by 68.6% year-on-year and 47.1% quarter-on-quarter due to the global epidemic and travel restrictions. However, more pre-orders have been arranged in response to client demands. We expect that once the travel restrictions are lifted, overseas revenues will surge significantly. For the asset management segment, as of June 30, 2020, the asset management of Gopher was RMB159.4 billion, down 1.4% quarter-on-quarter and down 11.8% year-on-year, mainly due to our voluntary early retention of single counterparty credit funds, resulting in a net decline of RMB5.8 billion in size. However, excluding the impact of early redemption of those credit funds, the asset under management of other asset classes increased by RMB3.52 billion quarter-on-quarter, of which private equity and public securities increased by RMB2 billion and RMB2.6 billion respectively. As of June 30, 2020, Gopher is a global multi-asset class asset management company. We have been continuously improving its asset allocation capability, and an independent fixed income division has been established to meet high-net-worth clients' demand for stable returns. This specific asset category had AUM of RMB4.66 billion, up 42.5% year-on-year and up 10.4% quarter-on-quarter. Meanwhile, Gopher has been strengthening its credit rating and investment research capabilities. The focus of the primary market is still on funded funds, secondary funds, and co-investment funds, which had AUM reaching RMB107.71 billion at the end of the second quarter, up 3.2% year-on-year and up 1.9% quarter-on-quarter. For real estate investment, the strategy is to focus on preferred equities of residential projects, with AUM reaching RMB17.24 billion at the end of the second quarter, down 10% year-on-year and down 5.4% quarter-on-quarter. For public securities, the focus is on funds of target returns, which had a total of RMB11.83 billion under management at the end of the second quarter, up 45.1% year-on-year and up 28.4% quarter-on-quarter. In 2020, Noah and Gopher's key recommended configuration products for high-net-worth clients are equity and equity debt hybrid products with a three-year lockup term. It is not an illusory rhetoric to believe in the value of the best portfolio managers and long-term value. Noah's research has found that through a three-year average holding period, while partially sacrificing some liquidity, the level of positive returns is adequate to meet and serve the needs of wealth management clients. From a business management perspective, in the second quarter of 2020, we initiated the design of a new organizational structure, conducted senior management team building, co-created new evaluation criteria of senior management and reached a preliminary consensus. Meanwhile, we upgraded the importance of technology in driving business to an unprecedented level compared with its previous supporting functions. We believe that the investment philosophy of wealth management and asset managers cannot just exist as theory, and some instrumental measures should be provided by which relationship managers and clients can gradually reach a consensus. All of this can be achieved through technological means. Supported by technology tools, clients can identify exactly whether the product drawdown exceeds the originally set risk preference, allowing effective communication between the asset manager, relationship manager, and clients. The previous requirement for wealth management was focused only on duration and expected returns, and clients' wealth management was focused solely on whether the distribution institution had the ability to provide implicit guarantees. We have transitioned to NAV-based wealth management products which require investment results in addition to the process and energy commitment. In June 2020, we submitted an application for the license for mutual fund investment advisory in China. Our overseas mutual fund platform, iNoah, was launched on schedule in the same month. We are gradually building Noah’s global mutual fund platform, which has been accelerated by the company’s digitalization and online transformation process. On January 16, 2020, Noah hosted the virtual investment strategy summit. Our 'staying at home' online data conference took place in February and March, and from April 1, 2020, five other online marketing programs were launched. We invited 65 fund managers to share industry dynamics, market trends, and investment strategies with clients. By the end of June, the eight series of investor education sessions generated a total of 152,500 page views, covering 30,300 clients. Driven by new market environments and Noah's paradigm transformation, we are bound to initiate and develop management styles that can adapt to the new markets. We will establish screening criteria and quantitative data platforms for mutual funds and better understand client needs to create a complete database of client requirements. Our future depends on the improvement of organizational capabilities. We will be guided by client needs, led by strategic planning to create a platform-based and mission-oriented organization, focusing on qualifications and performance management. Noah aims to achieve the evolution from individual leadership to organizational leadership. Recently, we learned that regulators might introduce new management measures for independent distribution companies, reaffirming the focus on the sale of mutual funds by distribution institutions. We are well-prepared for the new operational platform, and it will have no direct impact on our business once the new measures come into effect. We will continue to focus on cooperating with leading private equity funds through Gopher's funding models. Our clients will continue to have access to investment opportunities in outstanding private equity products. Finally, we announced a settlement plan that has been approved regarding the Camsing incident. Noah has been in business for 15 years, and we are grateful for the trust our clients place in us. We respect the markets, respect common sense, and have attracted a group of clients with mature investment concepts. Encountering the Camsing incident in 2019 and experiencing the COVID-19 pandemic in 2020 are indeed huge challenges for Noah. However, based on the continuous trust of clients, Noah still achieved initial success in the paradigm transformation under these challenging environments. Clients continue to trust us, and employees remain united to push Noah’s transformation forward with a stronger posture. In the most difficult moment, when the salary of all employees was cut, we still maintained the lowest turnover rates in the industry. Every one of us has committed to Noah’s mission and values, and clients have continued to give us trust, which has truly moved and inspired the management team. As of August 20, 2020, more than 54% of Camsing clients have continued to place orders, totaling nearly RMB5.1 billion. This is a difficult choice, but it is an active settlement plan. Although we are confident in the victory of this case, we clearly understand that this will be a protracted battle. The management team, upon receiving the approval from the Board of Directors, proposes a settlement plan with clients. This plan will last for 10 years. In the future, clients will align with our shareholders and work with us to promote Noah’s progress and long-term sustainable development. After experiencing the Camsing incident and the COVID-19 crisis, the spirit of all Noah's employees has been revitalized. We believe that one should never waste a good crisis. There are still difficult times ahead, but all Noah's employees will do their best and work harder than before. We thank clients for their patience and the team for their dedication and services.

Shang Chuang, CFO

Thank you, Nora. Dear shareholders, analysts, and investors, they might recall we had anticipated a very difficult second quarter as COVID-19 prolonged the recovery of the economy, travel restrictions continued to worsen, and the real impact on the domestic economy, especially in global export and import situations, continued to put pressure on small and mid-sized businesses. But today, this is why we're especially happy and very encouraged by the delivery of strong financial results for the second quarter of 2020 against the backdrop of COVID-19 ravaging the world's major economies. First of all, we not only met our full-year guidance of RMB800 million to RMB900 million non-GAAP net income target ahead of schedule, but we ended up with a non-GAAP net income of RMB307 million for this quarter, and actually RMB563.1 million for the first half of 2020, well above 60% of the range. We also reported a record high income from operations for the second quarter of nearly RMB320 million. Our operating profit margin improved to 42.7%, attributed to high-performance-based income and continuously improved operating efficiency. Let me walk you through the revenue and transaction revenues of the second quarter. Although we're pleased with the overall income and margins, we must acknowledge that the COVID-19-related travel restrictions continued to impact our overseas businesses, especially new insurance transactions, which led to a decline in one-time commissions of RMB127 million for the quarter. Even so, we managed to achieve a second consecutive RMB20 billion mark in transaction value for this quarter, following our transformation of products in 2019. We have also accumulated over 1,000 overseas insurance pre-orders that are readily convertible upon the lift of the travel ban. Although our product transformation continues to put structural pressure on one-time commission fees, the transaction value of standardized products remains firm, with close to RMB18 billion for the quarter, bringing total transaction value this quarter to RMB21.4 billion. For the second quarter, recurring service revenue reached RMB474.3 million, up almost 10% year-on-year and 5.5% quarter-on-quarter, driven by increased AUM in public securities and private equity/venture capital products. We also booked performance-based income of RMB91 million, which was the second-highest record since our listing, arising from private equity products and standardized plans we placed for our clients, demonstrating increasing capabilities of our product selection and investments. Operating margin also set a historical record for the company since its listing as a result of factors including increased operational efficiency and a RMB50 million government subsidy this quarter. But even without the government subsidies, our operating margin remains high at 35.2%. By segment, net revenues from the wealth management business contributed 72.6% of the total net revenues with RMB543 million, down by 13% year-on-year and flat from last quarter, showing the impact of the weak performance in overseas insurance sales. Net revenues from the asset management business amounted to RMB181.6 million, up 6.2% year-on-year and almost 10% quarter-on-quarter, accounting for 24.3% of the total net revenues. Our lending business is undergoing a strategic shift from direct lending to loan facilitation, representing minimal credit risk as we only provide facilitation services to other financial institutions, accounting for 3.1% of total revenues. We will continue to restructure and upgrade this business segment. As Chairlady Wang mentioned, we are delighted to see a clear switch in product mix in line with our transformation towards standardized products. Comparing to the same period last year, RMB9.75 billion out of RMB24 billion transaction values in the quarter were single counterparty private credit products, while standardized products only represented 25% of the pie in the second quarter of 2019. After one year of consistent efforts and transformation, standardized products now account for 83.1% of the total financial products distributed. We are committed to putting clients' needs first and sourcing safer products while maintaining diversification and asset allocation. On the traditional finance side, we are pleased to report that we have recently successfully closed a RMB2 billion fundraising for Gopher as part of five secondary private equity funds. With the launch of our overseas mutual funds mobile app, Noah, together with the parallel onshore mutual funds version, Fund Smile, has built a global mutual funds platform offering carefully selected products for clients around the world. In the second quarter, we reached the RMB10 billion AUM mark in mutual funds. For the first half of 2020, we incurred approximately RMB100 million in IT-related expenses as we mentioned in the last quarter that we are directing strategic resources into IT and technology-related funds. Moving on to our balance sheet, we continue to maintain a healthy financial position. Standard & Poor's recently reaffirmed our investment grade rating, with our debt-to-asset ratio lowered to a historical low of 15.9%, with no interest-bearing debt on our books. We consider it a blessing to maintain a strong balance sheet that can help us navigate through uncertain economic cycles filled with unknown challenges. That said, we are also closely monitoring the market for strategic opportunities that may help us with growth and strengthening capabilities in the next stage of development. Furthermore, Noah has been increasingly focused on responsible investment. As a practitioner of long-term value investment and sustainable development, Noah Holdings Limited and Gopher Asset Management have both become signatories of the UN-supported principles for responsible investment, or PRI, which was initiated in April this year. Noah is the first independent wealth management firm from China to participate in this initiative, aligning with international standards. We also just released the sixth annual Noah sustainability report, which is available on our newly launched ESG website. We feel fortunate that our employees have remained safe since the virus outbreak, thanks to the effective management by our local governments paired with more online interactions with our clients, ensuring our orderly operation over the past two quarters. The wellbeing of our employees, clients, and community has been our top priority. We also have emergency procedures in place if any infection cases occur within the company that could cause unexpected workplace shutdowns. Regarding the accounting settlement plan, we believe that it marks the second major step associated with this matter, enabling us to move forward with lighter burdens. The plan aims to reserve cash flow for the company while imposing a relatively manageable dilution to stock prices. Moreover, it is critical for us to secure a group of important clients to continue investing with us. As Chairlady Wang previously mentioned, the group of clients' new investments already surpassed RMB5 billion since the principal of that particular investment. We are confident that this number will only increase once the plan is accepted by our investors. Overall, we are pleased with our first half results in a year filled with uncertainties and challenges. Despite facing headwinds, we achieved 70% of the floor of our initial 2020 profit guidance and remain confident about business developments for the upcoming quarters. I am delighted to report that we are revising our 2020 non-GAAP income guidance upward by RMB100 million; our new range is RMB900 million to RMB1 billion. This revision reflects our stronger transaction values and performance-based income expectations, as well as the overall outlook of the business for the remainder of the year. I will now open the floor for questions. Thank you.

Operator, Operator

Our first question is from Stephanie Poon at Citi.

Stephanie Poon, Analyst

Hi, Grant. Thanks for taking my question. I have two questions. First, regarding your operating margins, we have seen very meaningful improvement in your operating margin in the second quarter. I’m wondering about the outlook; do you think it can sustain at this relatively high level? I recall previously your guidance for the full-year margins was about 30%. Can you exceed this guidance? What is your outlook for the full year? My second question is about your transaction volumes in July and August. We have seen strong performance in Asia markets and demand for the whole mutual fund market has also picked up significantly. Can you share what your product sales run rate is like in the past two months? Thank you.

Grant Pan, CEO

Sure. Just give me a second. Thank you, Stephanie. Yes, the second quarter was actually a little bit higher than expected, particularly since the government provided support to entrepreneurs during this difficult period. We received about RMB50 million in government subsidies, which is approximately RMB40 million more than the average subsidy we usually see in past quarters. Without this number, the second quarter's operating margin would be around 35%. We are still maintaining the 30% operating margin guidance for the remainder of the year, as some of the investments, especially in IT and strategic investments, will show their impact in the second half of the year. In terms of transaction volumes, in July, based on the numbers we have seen from our sales team in August, the momentum has continued. I think it's reasonable to expect it to be at least close to the first quarter’s level. Additionally, the mix of transactions will include more private equity items, as we are focusing primarily on Gopher's products in the secondary market, as well as some US dollar PE funds. I am pleased with what we have seen in the first two months of the third quarter, and I'm optimistic that the momentum will continue, especially with news that Hong Kong might lift the travel ban before the national holiday, which will provide a significant boost to transaction values.

Operator, Operator

The next question is from Xue Yuan at CICC.

Xue Yuan, Analyst

We will include more private equity items, as we are focusing primarily on Gopher's products in the secondary market, along with some US dollar private equity funds. I am pleased with what we have seen in the first two months of the third quarter, and I'm optimistic that the momentum will continue, especially with news that Hong Kong might lift the travel ban before the national holiday, which will provide a significant boost to transaction values.

Unidentified Company Representative, Company Representative

I am pleased with what we have seen in the first two months of the third quarter, and I'm optimistic that the momentum will continue, especially with news that Hong Kong might lift the travel ban before the national holiday, which will provide a significant boost to transaction values.

Grant Pan, CEO

It's okay. I’ll translate for Noah and share some insights. First, regarding parity income, it consists of two parts. One is from private equity, and the other is from public security funds. With our AUM in private equity, especially given government policies and activity on the star board, we anticipate that exiting existing AUM will become increasingly apparent going forward. There is a statistic indicating that cumulatively RMB230 billion funds were raised for top general partners, with Noah accounting for about RMB80 billion of that. Thus, we are enjoying the position of a leader in this industry. We also have approximately 50 companies currently listed or in the process of listing on the star board. For instance, a recent example includes a company where we originally invested about RMB50 million, and on paper, it has achieved a 100x return on investment. We maintain our investment stance in the real estate sector as well. In the secondary market, we are collaborating with top GPs, such as Hill and Greenwood, and we have observed that several clients have generated returns since their initial investments. In terms of fee rates, these vary depending on the specific products and managers involved, making it difficult to establish a uniform number. In regards to managing transaction value volatility, we still have a strong pipeline for private equity distribution for the rest of the year, alongside other aspects of our business that have been temporarily impacted due to travel restrictions. Moreover, with the strengthening of public security products, we anticipate it will help to mitigate volatility. One of our key strategic products is a balanced fund combining bonds and stocks, which includes a three-year lockup period that helps clients weather difficult cycles. While our original target for RMB20 billion for this fund may not be reached as quickly as we hoped, we are confident that it will serve as a fundamental layer for clients' asset allocation. Regarding competition from internet players, we cater to a different customer segment altogether. On average, the transactional value for mutual fund purchases on our platform is around the RMB1 million mark, which is quite rare for retail internet platforms as you've mentioned. Therefore, we do not plan to lower our standards to service retail clients; instead, we aim to provide more selections for our clients in the mutual fund product area.

Operator, Operator

Do we have more questions online?

Ethan Wang, Analyst

Regarding competition from internet players, we cater to a different customer segment altogether. On average, the transactional value for mutual fund purchases on our platform is around the RMB1 million mark, which is quite rare for retail internet platforms as you've mentioned. Therefore, we do not plan to lower our standards to service retail clients; instead, we aim to provide more selections for our clients in the mutual fund product area.

Unidentified Company Representative, Company Representative

On average, the transactional value for mutual fund purchases on our platform is around the RMB1 million mark, which is quite rare for retail internet platforms. Therefore, we do not plan to lower our standards to service retail clients; instead, we aim to provide more selections for our clients in the mutual fund product area.

Grant Pan, CEO

Okay, let me translate that quickly. About the saving product: we have an internal data point indicating there is approximately RMB7 billion AUM for clients aged 65 and older. For senior clients, especially those over 70, we have a policy not to recommend or assist them in placing investments in riskier products. We view this as akin to a fund of funds for savings products that are safer and have guaranteed principal by the bank up to a specific amount. We believe this is a safer and more suitable alternative for our senior clients who wish to continue investing with us. In terms of the growth of iNoah, I should clarify that it only went live in June, so we haven't put substantial effort into its promotion yet. We just opened it up to internal clients for their overseas assets, especially for their needs in purchasing and selecting mutual funds. Moving forward, once the first version of iNoah is stable, we will likely implement a more massive marketing initiative toward the end of this year or early next year. Currently, we have around 5,000 users, most of whom are existing clients of Noah. Hi Amy, do we have any other questions in line?

Operator, Operator

I am showing no further questions.

Unidentified Analyst, Analyst

Okay. Hello. Thank you. Thanks for taking my question. We have a question about costs. We've noticed a significant reduction in costs in the second quarter, but given the salary implications and government subsidies, we’d like to get a sense of how much of this cost reduction is due to strategic changes, such as moving products online.

Grant Pan, CEO

Yes, in fact, without the government subsidies—which contributed about 35% to our operating margin—we have been making continuous efforts to move many conferences online. This shift has significantly reduced our travel expenses, partly due to restrictions necessitated by the pandemic. At the same time, we found that online conferences tend to keep people more focused and therefore often facilitate more efficient communication. While we don't intend to move entirely online, we still believe that offline seminars provide valuable opportunities for clients to connect. Additionally, we continue to invest in IT technology to improve efficiency for clients as well as relationship managers in conducting business. We are actively seeking new ways to enhance both efficiency and effectiveness, such as through online seminars that deliver value and good investment opportunities.

Operator, Operator

This concludes the question and answer session. Would you like to make any closing remarks?

Grant Pan, CEO

It was a challenging quarter, and we're happy to deliver strong results, maintaining a positive outlook for the upcoming quarters. Thank you very much for joining us today. Investors and shareholders can feel free to reach out for further discussions. Thank you.

Operator, Operator

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