Earnings Call Transcript - NU Q4 2022

Operator, Conference Call Operator

Good afternoon, ladies and gentlemen. Welcome to Nu Holdings Conference Call to Discuss the Results for the Fourth Quarter of 2022. A slide presentation is accompanying today's webcast, which is available in Nu's Investors Relations website, www.investor.nu in English and www.investidores.nu in Portuguese. This conference is being recorded, and the replay can also be accessed on the Company's IR website. This call is also available in Portuguese. To access it, press the globe icon on the lower right side of your Zoom screen and then choose to enter the Portuguese room. After that, select mute original audio. Please be advised that all participants will be in listen-only mode. You may submit online questions at any time today, using the Q&A box on the webcast. I would now like to turn the call over to Mr. Jorg Friedemann, Investor Relations Officer at Nu Holdings. Mr. Friedemann, you may proceed.

Jorg Friedemann, Investor Relations Officer

Thank you very much operator. And thank you all for joining our earnings call today. If you have not seen our earnings release, a copy is posted in the Results Center section of our Investor Relations website. With me on today's call are David Velez, our Founder, Chief Executive Officer and Chairman, Youssef Lahrech, our President and Chief Operating Officer, and Guilherme Lago, our Chief Financial Officer. Additionally, Jag Duggal, our Chief Product Officer, will join us for the Q&A session of the call. Throughout this conference call, we will be presenting non-IFRS financial information, including adjusted net income. These are important financial measures for the Company, but are not financial measures as defined by IFRS. Reconciliations of the Company's non-IFRS financial information to the IFRS financial information are available in our earnings press release. Unless noted otherwise, all growth rates are on a year-on-year FX neutral basis. I would also like to remind everyone that today's discussion might include forward-looking statements, which are not guarantees of future performance, and therefore, you should not put undue reliance on them. These statements are subject to numerous risks and uncertainties and could cause actual results to differ materially from the Company's expectations. Please refer to the forward-looking statements disclosure in the Company's earnings press release. Today, our Founder and CEO, David Vélez, will discuss the main highlights of our fourth quarter 2022 results and some of the opportunities ahead. Subsequently, Guilherme Lago, our CFO; and Youssef Lahrech, our President and COO, will take you through our financial and operating performance for the quarter. After which time, we will be happy to take your questions. Now I'd like to turn the call over to David. David, please go ahead.

David Velez, CEO

Thank you, Jorg. Hello, everyone. Thank you for being with us today. Once again, I am happy to share that Nu posted another record quarter, showing continued growth across all our metrics, including a meaningful increase in profitability. We will also be disclosing numbers for Nu Brazil specifically today, which we think show a very exciting picture. We welcomed more than 4 million customers to our platform this quarter, and we now have close to 75 million clients across our three geographies, posting a growth of 38% year-on-year. We're now the fifth largest financial institution in Brazil, and the sixth largest financial institution in Latin America in terms of the number of customers. Let's now dive into the main operating highlights of the quarter and of the year. During the fourth quarter, our revenue amounted to almost $1.5 billion, growing 112% year-over-year. The triple-digit expansion in revenues is the compounded effect of the strong expansion of our active customer base in Brazil with our ability to cross-sell products and faster client engagement. Nu also expanded gross profit by 137% year-over-year to $578.3 million in the fourth quarter of 2022. The significant expansion of our gross profit margin, which reached 40% this quarter, up from 36% in the fourth quarter of 2021, reinforces the operational leverage capacity of our business and the strong execution of our team. In 2022, we succeeded both in terms of pricing, adequately credit products amidst adverse conditions, and adapting our funding cost to deal with much higher-than-expected interest rates. As a result, Nu Holdings delivered an adjusted net income of $113.8 million in the fourth quarter of 2022, up from $3.2 million in the fourth quarter of 2021. The Brazilian operations highlighted on the right side of the slide continue to mature and contribute meaningfully to these results, with 93% of our revenues generated by this year. Adjusted profit for the Brazilian operations reached $157.7 million in Q4 of 2022, up from a loss of $3.8 million during the fourth quarter of 2021. Our progress in Brazil illustrates that our business model is able to start generating meaningful profits while growing revenue over 100%. The beginnings of Nu were based on the unbundling of financial services back in 2013. Now our most important business opportunities rest on the rebundling of financial services by building a diversified multi-product, multi-segment, and multi-country portfolio of businesses. As you can see on this slide, even our adjacent businesses already achieved a notable figure of customers, attesting to the Company's cross-sell capacity. Despite the growing scale of our core products, Nu is still in the early days of its product development life cycle. That said, the size of the inflection of the score for our products is already clear. This slide is meant to show two things. First, the speed at which we develop products has accelerated over time. Second, our product portfolio is well positioned to deliver multiple years of strong growth. While Nu accounts and credit cards have just reached the inflection points of their growth stages, most of our other products are at earlier stages of their life cycles, suggesting still high levels of up-sell and cross-sell potential for multiple sources and for years to come. We will continue to expand our platform with disruptive products that further strengthen relationships with our customers and enable us to acquire increasing levels of customer principal and share of wallet across all demographic segments, where most of our launches in 2023 include the expansion of organic products in Brazil into secure lines such as public payroll and the launching of savings accounts in both Mexico and Colombia. Just as Nu is in the early days of its product development life cycle, it is also in the early days of its international expansion. Over the past decade, we have successfully expanded our operations in Brazil, having reached a customer base that represents 44% of the population of the country. It is inevitable that our customer growth in Brazil over the coming years will be lower than what we experienced over the last years. Our growth in Brazil will progressively pivot from customer acquisition into customer monetization. Conversely, however, we're still at the early stages of the customer acquisition life cycle in Mexico and Colombia, countries in which our penetrations are still low, but early signs of performance are extremely encouraging. Mexico and Colombia are outpacing Brazil in practically every single customer growth and engagement metric. They're growing faster and showing NPS levels higher than those of Brazil. In both of these countries, we have already become the top issuer of Nu credit cards. The stages of development for these three geographies are complementary and expected to provide Nu with very strong growth engines for years to come. To better showcase the earnings potential of our model, we want to spend a few minutes digging specifically into our Brazil business, which continues to show very strong top line traction and also meaningful bottom line profitability. Over the past four years, we expanded our client base in Brazil by 11 million, having reached a penetration of 44% of the adult population of the country. 70% to 80% of the clients came to Nu through organic channels, mostly member to member, providing us with strong growth and one of the lowest customer acquisition costs among fintechs and incumbent banks globally. We have been successfully applying the same playbook in Mexico and Colombia. The compounding effect of customer growth and higher levels of customer monetization have resulted in strong top line growth in Brazil. In the fourth quarter of 2022, our Brazilian operations recorded $1.4 billion in revenue, 110% year-on-year growth and a gross profit margin of 44%. Adjusted net income grew progressively over the past quarters, reaching $158 million in the fourth quarter of 2022 for an annualized adjusted return on tangible equity of 58% and an annualized return on equity of 40%. Although part of this number was positively impacted by the seasonal effects observed in the first quarter of the year, such as higher purchase volume and lower cost of funding, one can see that the profitability of our operations in Brazil has reached an inflection point, positioning us among one of the financial institutions with the highest return on capital in the country. However, we believe we're still in the early stages of the development of the country, with still significant upside in terms of both top line growth and operating leverage. Finally, this slide details the outcome of our strategy in Brazil and at the holding level. The viral expansion of our customer base, combined with our successful cross-selling and up-selling strategies have driven strong profitability in our Brazil business. In the fourth quarter, which was positively affected by seasonality, Nu Brazil posted a return on tangible equity of 25% and a return on equity of 15% for the full year of 2022, even considering the losses reported in the first quarter of the year. While 2022 was a challenging year economically and very critical for us as we build trust as a newly public company, we could not be more proud of our 2022 results, which largely exceeded our internal expectations. The execution capability of the entire Nu team was very strong, and we proved that it is possible to maintain accelerated growth as we gain share in every product vertical and geography, while keeping credit delinquency in check, improving operating leverage, and ultimately showing strong profitability. For this achievement, important as they are, represents only the first steps of where we can deliver in the future. Once our new geographies mature and, similar to Brazil, scale further and start to compound the profitability potential that our model creates. With that, I would like to pass the floor to our CFO, Guilherme Lago, who will walk you through more details of our results. Thank you.

Guilherme Lago, CFO

Thanks, David, and good evening, everyone. To better frame the discussion around our year-end results, I would like to recap the three key elements of our simple and powerful value-generating strategy. Number one, continue to grow our customer base in the markets in which we operate, Brazil, Mexico, and Colombia, and quickly convert new customers into active ones; two, expand average revenue per active customer, or ARPAC, through both cross-sell and up-sell; and three, deliver growth while maintaining one of the lowest cost operating platforms in the industry. Our fourth quarter results show positive evolution in each of these three pillars. Let's start with the first pillar of our strategy, customer acquisition. In the fourth quarter, we added 4.2 million customers and ended the year with 74.6 million customers, a 38% increase year-over-year. In Brazil, we are steadily adding between 1 million and 1.5 million customers per month, the vast majority of which will come from referrals, which lowers the acquisition cost and accelerates activation. In Mexico, we surpassed 3.2 million customers by the end of the quarter. As per the last available data for 2022, Nu's market share in terms of new cards issued in the country approached 29%, while the share of purchase volumes for credit cards already achieved 5%. Our strongest growth in relative terms was in Colombia, where our customer base reached nearly 600,000. In Colombia, Nu accounted for 38% of the number of Nu cards in 2022 as per the latest available information, with 2% market share in terms of purchase volumes for credit cards. The second part of this pillar is activation, where we continue to drive higher levels in the fourth quarter. Our overall monthly activity rate reached 81.9%, 5.6 percentage points higher year-over-year and the 11th consecutive quarter of sequential increase. We are seeing positive and increasing momentum in activity in all three markets in which we operate, despite their different stages on the S curve. Let's move to the second pillar in our strategy, revenue generation. The three charts on this slide show a clear relationship. Let's start with the chart on the left. We are very proud that as of the end of 2022, 58% of our active customers have chosen Nu as their primary banking account (PBA). This is the holy grail of the financial services business and the cornerstone of our model for three simple reasons. Number one, PBA customers generate ARPACs that are much higher than those of non-PBA customers. Number two, PBA customers present 90-day NPLs that are much lower than those of non-PBA customers. And three, PBA customers also have lower levels of price elasticity than those of non-PBA customers. The number of PBA customers underscores the development of the model that effectively engages and serves our customers with multiple products and throughout all stages of their life cycle. It begins with how we attract clients, which is through a powerful engine based on customer referrals. The more customers use Nu as their primary bank account, the greater the number of products they use and the higher the monthly ARPAC they generate. With every cohort, we have been able to accelerate the pace at which Nu becomes the primary bank account for our customers. We have also been able to accelerate the pace at which our customers use our products. These two factors compound to speed up our monthly ARPAC for Nu accounts and also help to push up the overall ARPAC of the Company. For the fourth quarter, our monthly ARPAC continued to increase and achieved $8.2 per month, pushed by both the increase in cross-selling and up-selling of our new cohorts and the moderation of our older cohorts, whose average ARPAC reached $23 per month. We can see in this slide that our monthly ARPAC continues to grow sequentially, expanding 37% year-over-year. The higher number of active clients combined with a higher ARPAC prompted the sustained growth in our revenues. Revenue grew 112% year-over-year to $1.5 billion, another record high. Our revenue in 2022 was nearly 3x higher than in 2021 and almost 7x higher than in 2020. Now turning to the cards business. We continue to experience strong growth with purchase volumes up 54% year-over-year to $24 billion. In 2022, purchase volumes reached $81 billion, an 85% increase over 2021, demonstrating the power of our product cross-sell, up-sell, and customer engagement capabilities. Most of the purchase volumes continue to come from our older cohorts of customers, which spend 3x to 4x as much per month as recent cohorts. While there is a difference from the outset between newer and older cohorts, both show clear upward trends of consumption over time. On average, credit card spend for a customer who has been with us for more than 24 months triples. We expect the substantial number of clients we added in the last two years to increase their purchase volumes with our cards as their relationships with us continue to mature. Our consumer finance portfolio composed of credit cards and personal loans reached $11 billion, a 62% expansion over year-end 2021. Our credit story has two tales. On one hand, credit cards continue to grow strongly at 69% year-over-year as more clients are added to our ecosystem and our loan draw methodology plays out. On the other hand, we have been more cautious with the originations in the personal loan portfolio aligned with the product's higher risk. Originations in personal loans increased slightly, and the overall book grew sequentially during the fourth quarter to $2 billion. The base of growth has been lower than that of credit cards at 33% year-over-year. But with the ongoing performance of the book, we expect this to accelerate over the coming quarters. Now let's review in more detail the evolution of our credit card portfolio and the originations of our personal loans. We continue to pursue our strategy of increasing the share of our credit card loans that earn interest, closing the gap compared to the market. We have narrowed this gap by offering our customers interest-earning installment loans on their credit cards, which in the fourth quarter surpassed market levels and represented 12% of our credit card loan book. We see attractive risk-adjusted rates of returns on this type of finance. It allows us to monetize our credit card business beyond simple fee generation and fulfill customer need. At the same time, we have been intentional in not expanding our share of revolving receivables, which continues at 7% of our total receivables and once again widened the gap versus the market, whose revolving now accounts for 17% of total receivables. We base our origination of personal loans on the latest performance of our own cohorts, our assessment of risk going forward, including our judgment of the economic and credit environment. Last year, we increased the resilience with demand from our loan originations, and we have seen positive performance to date, leading to gradual increases in our origination volumes. We expect this trend to continue going forward as long as this positive performance track record persists. Indeed, we continue to see upside in our ability to drive growth in lending in a healthy and profitable manner. We have substantial reach given the size of our customer base. We believe the risk assessment in our platform is best-in-class, allowing us to deliver superior products and experience to our customers. We also have a strong capital base and ample liquidity to increase our leverage. As market conditions improve and allow our credit risk appetite to increase, we should be able to deploy capital effectively and profitably. This strategy should be reinforced with the upcoming launch of secured lending. In July 2022, we launched Money Boxes, which are personalized investment tools. We also started to remunerate deposits at 100% of the Brazilian interbank deposit rate but retroactively and only for amounts that remain on deposit for more than 30 days. Given their stage rollout, these two changes did not materially affect our funding cost in the third quarter. However, in the fourth quarter, we started to see the full impact of these changes. In the fourth quarter of 2022, our cost of funding improved to an all-time low of 78% of the interbank deposit rates. This led our financial expenses to decline quarter-over-quarter. We are now starting to unlock the value of the strong liability franchise that has been built over the past years, and our deposit base continued to grow. Deposits increased 55% year-over-year to $16 billion. We have seen no material impact on the deployment of Money Boxes or the changes in remuneration on our deposits inflow. The success of this new strategy has already had an important effect on our profitability for the fourth quarter and should be recurring in the subsequent quarters. The successful implementation of our Nu funding strategy combined with the continued growth of our credit portfolio made a meaningful contribution to our results in the fourth quarter. This is most visible in our net interest income (NII), which reached $688 million this quarter, growing 30% quarter-over-quarter. The improvement in our cost of funding helped increase our net interest margin (NIM), by 2.4 percentage points over the level of the third quarter to a record high of 13.5%. While we can attribute much of the recent gains in net interest margins to our Nu funding strategy, we expect this trend, respecting seasonality, which is especially strong in the fourth quarter, to continue going forward based on three factors: number one, the growth in our credit portfolio, which should surpass that of our deposits; number two, the adequate pricing of our credit products as we continue to build underwriting resilience with pricing; and number three, the improved mix of our loan book, especially as we resume the growth of our personal loans over the coming quarters. Let's move to the third pillar in our overall strategy, maintaining a low cost to serve. We believe our platform is one of the most cost-effective in the markets in which we operate. For the fourth quarter, our cost to serve amounted to $0.90 per dollar. On a year-over-year comparison, our cost to serve did not grow. This achievement is even more impressive considering how much we evolved in terms of products per customer and PBAs. Over the same period, our ARPAC increased 37%, clearly illustrating the strong operating leverage of our business model. Looking ahead, as we said in past quarters, we expect our cost to serve to remain at or below the dollar level as the scale gives us significant operating leverage and bargaining power with our suppliers. In terms of gross profit, we achieved $578 million, up 137% year-over-year, a significant acceleration versus the growth posted last quarter. This level of gross profit was the highest we have ever achieved. At the same time, our gross profit margin of 40%, four percentage points higher year-over-year, accelerated the pace of recovery started in the third quarter. To illustrate how far we have come, our gross profit of $1.7 billion in 2022 is more than 2x higher than that of 2021 and nearly 5x higher than that of 2020. Operating leverage is a key element of our strategy, with the full benefits becoming increasingly clear as we advance product penetration and drive revenue growth. This is visible in our efficiency ratio, which improved for the fourth consecutive quarter to reach an all-time low at 47% or 41% excluding share-based compensation. This is already comparable to the efficiency levels of Latin American incumbent banks, but it is still far from the potential of our platform, which continues to collect the benefits of scale. We expect our operating leverage to continue to be captured as our scale increases, although there might be seasonal variations affecting this number. In the fourth quarter, in particular, our platform benefited from stronger purchase volumes and deposit inflows. Now moving on to the bottom line, we posted another quarter of improving bottom line performance. In the fourth quarter of 2022, our adjusted net income and net income amounted to $114 million and $58 million, respectively. These results are encouraging as they serve to validate our strategy and our business model. However, we reinforce that we look at our business with a view towards long-term value creation, which may require us to make additional investments in the short term to optimize our long-term opportunities, and we expect to continue managing the Company this way. We see this fourth quarter and the year of 2022 as a whole as evidence of our sustainable cost advantages. On cost to acquire, we added over 20 million customers during 2022 and presented one of the lowest customer acquisition costs among fintechs and banks globally. On cost to serve, we held it constant on an FX-neutral basis throughout the entire 2022, despite the inflationary pressures in the countries in which we operate and increasing levels of customer engagement. On cost of risk, we successfully managed the risk in our credit portfolio amid a very challenging backdrop and continue to outshine competitors when comparing apples-to-apples. Youssef will provide more details on that shortly. On cost of funding, we began to unlock the potential of our deposit franchise, starting to close the negative gap we had against incumbent banks and widening the positive gap we have against fintechs. As we go into 2023, we expect the trends from the fourth quarter to continue to gain traction. In particular, we emphasize our ability to develop and scale best-in-class products, expand internationally, and at very low cost. Now, I would like to turn the call over to Youssef, our President and Chief Operating Officer, who will walk you through some of the highlights of our asset quality.

Youssef Lahrech, President and COO

Thank you, Lago. Let me take you through some key indicators of asset quality and overall credit portfolio health for the fourth quarter of 2022. Let us start with overall NPL trends. Our early delinquency indicator, NPL 15 to 90, improved this quarter by 50 basis points, reaching 3.7%. This was driven by two main factors. Number one, the improvement in the credit performance of our personal loans portfolio in response to the management actions taken in Q2; and second, the favorable seasonality that takes place during the fourth quarter when early delinquencies usually trough. It is important to note that this trough is usually accompanied by a rebound in early delinquency rates during the first quarter of each year. The 90-plus NPL ratio increased from 4.7% to 5.2%, behaving in line with the expected stacking behavior of these buckets. I want to take this opportunity to reinforce that Nu has never sold delinquent loans, which otherwise would have had a purging effect, thereby artificially lowering delinquency rates. With respect to loan renegotiations, they remain at around 7% of our book, with approximately half of those coming from current and not past due customers at the time of renegotiation. For the credit card portfolio, these six graphs show the time series of NPL by income, where the purple line represents Nu and the gray line represents the industry. As we already mentioned during previous calls, and as you can see on these updated charts, we continue to outperform the industry on a like-for-like basis. For the lower income ends, our comparative advantage is even more pronounced. The gap for each continues to widen as you look at the trend over time, demonstrating that our competitive advantage in underwriting remains consistent and sustained. Just as in past quarters, provisions continue to grow, primarily driven by the growth in our portfolio. We front-load provisions when we originate loans based on the expected losses for the life of the credit in accordance with the IFRS-9 expected loss methodology. This quarter, much of the expansion in our risk-adjusted NIM can be traced back to the improvement in our cost of funding. However, even after adjusting for that factor, we would still see risk-adjusted NIM stronger than that of the third quarter and even stronger compared to that of the fourth quarter of 2021. Having shared these data and perspectives on credit and asset quality, let me now turn the call back to our Founder and CEO, David Velez, for his concluding remarks.

David Velez, CEO

Thanks, Youssef. It has now been a little over one year since our IPO. And despite much more adverse conditions than we could have anticipated, we are proud to have over delivered on our commitments to the market. Over 8,000 colleagues delivered these results through an unwavering focus on strong execution, and I thank each and every one of them. Let me now close by summarizing some of the most important changes in the environment. We adapted our strategy to deliver on what has been promised and on what lies ahead of us for 2023. First, in late 2021, no one expected the sharp increase in policy rates that skyrocketed to almost 14% in Brazil. To mitigate this, we launched Money Boxes, and six months later, we lowered our cost of funding to 78% of the CDI from about 100%, while both deposits and Money Boxes continue to grow sequentially and strongly. Second, with a tougher environment for asset quality in Brazil, we became more restrictive in originating personal loans while repricing our products and building resilience within our portfolios. In parallel, we accelerated the launch of our general payroll lending in Brazil, expected in the upcoming quarter. We're confident that this is a disruptive solution for our customers, which will foster growth into different client segments, thus further rebalancing our credit book. Third, we doubled down on smart efficiency moves to foster profitability and showcase the operating leverage of our model. One of these moves was the termination of the CSA, which will save the Company $7 million per year. But beyond that, it reinforces how committed Nu as a company is to accelerating value creation for all of our shareholders. Our efficiency ratio will continue to improve progressively over the coming years as we capture cost savings opportunities and reduce the rate of headcount growth going forward. Finally, in 2023, we will prioritize winning our first share of wallet in the market in Brazil, where there remains tremendous opportunity, growing our personal lending book, both secured and unsecured, and expediting the inflection of the growth model in users. Almost 2 million customers with monthly income of BRL 12,000 are already clients of Nu, but our share of wallet with them is currently approximately 10%. In 2023, we will also break into the secured lending market, positioning payroll loans as a core product to complement our personal lending product shelf and widen our growth opportunities in the country. Last, but not least, 2023 will be the year in which we launch and deepen the penetration in both Mexico and Colombia, which should accelerate the growth and sustainability of our platform in these countries. We will continue investing significantly in both countries, as we think the potential price is very significant. We entered 2023 with a lot of strength and are excited to continue proving our model across products and geographies. We would like to take your questions now. Thank you very much.

Operator, Conference Call Operator

We will now start the Q&A session for investors and analysts. Please follow the operator's instructions.

Jorg Friedemann, Investor Relations Officer

Thank you, operator. And our first question comes from Jorge Kuri, Morgan Stanley.

Jorge Kuri, Analyst

Good afternoon everyone. Congratulations on the fantastic results, and thanks for the additional disclosure on the Brazil numbers. The profitability at this point is evidently really impressive, so congrats on that. I wanted to ask about the Money Boxes. It was a really positive surprise to see your funding cost at 78% of CDI, down from 95% in the previous quarter. To what extent is this a seasonal improvement based on the fourth quarter excess liquidity that normally comes in from customers because of the salary? Or is this sort of like the level from which you could continue to improve in 2023? And what do you think is the opportunity for you to continue to improve that number? If I remember correctly, I think in a couple of public forums, you said that maybe by the end of 2023, the funding cost could be at 80%. But evidently, you were at 78% at the end of last year. So how do you see that evolving?

Guilherme Lago, CFO

Jorge, thank you so much for your question. We do expect the funding cost to remain largely at the same levels throughout the coming quarters, respecting seasonality. As you correctly pointed out, in the fourth quarter of every year, we have the additional flow from salaries, which has in the month of December 2022 pushed down a little more the cost of funding than would otherwise be expected in a so-called normal month. However, we haven't yet seen the full impact of the change in the remuneration. We will only see this in the first quarter of 2023. So with those puts and takes, we do expect that the cost of funding at today's levels is a sustainable level for us to see throughout 2023.

Jorg Friedemann, Investor Relations Officer

And our next question comes from the line of Tito Labarta from Goldman Sachs. Operator, please open his line.

Tito Labarta, Analyst

Congratulations on the impressive results. My question is about the competitive environment. Currently, 58% of your active client base consists of primary banking clients. Looking at the industry, some of your established competitors, especially those targeting similar regions or income levels, appear to be struggling more than you. What do you believe has set you apart and allowed you to navigate this credit cycle successfully, defying expectations and achieving such strong results? Additionally, could you discuss how competition may be affecting this situation? It would be helpful if you could provide some insights on that.

David Velez, CEO

Sure, Tito. Thank you very much for the question. So I think the story that we're playing out is a very different story that the incumbent banks are playing out because on one end, we have 44% of the adult population in Brazil as a customer, a very meaningful population. On the other hand, we have very small market share still in a lot of our products. In credit cards, we have something like around 13%. On personal loans, we have about 3%. So we get to grow within our consumer base, cherry-picking the best customers and can continue gaining share even if the environment is pretty adverse. So that's the first big differentiation. The second consideration is, and this is, I think, a point that perhaps the market hasn't understood that well. We are growing our credit book within our own closed ocean. We give credit to customers that use our primary bank accounts that are getting their salaries in our account, they are using our app to do payments, they're getting an insurance. So that generates a lot of loyalty on one end, that generates a lot of information that we can use for underwriting. We are not providing credit in the open ocean as a lot of banks have actually done over the past 12 months. There's been a lot of growth in that open ocean. So it's been a different strategy. And as a result, we get to continue to pick within a base that we understand and that we know. The third consideration is we've actually always looked to provide products that are very good for consumers, and we've been very careful about taking into account ratios on household debt. So just to give you one data point. On the credit card product, we don't think involving it as a product is a good product for consumers to finance. It's a very high interest rate; consumers enter into that product, and they ultimately end up getting very high losses. So as a result, we look for customers that pay on time. We've always looked for customers that pay their bill on time. If we could choose, we could only get 100% customers that pay on time. And as a result, what you see is in the market, about 70% of customers of the common banks getting to the revolver; for us, it's only 7%. So we end up with a consumer base that is healthier, less leveraged, provides more data to give us information around underwriting, and that we ultimately get to cherry-pick to provide credit and continue to grow even if the environment as a big headline is adverse and generates some risk. Regardless of that, we did, though, decide to take it a little bit slower as you saw in 2022, especially in consumer lending, which has a newer product. But as you will see here on the delinquency numbers in Q4, which ended up being better than we expected, even though there is some seasonality, we already started growth again, and feel comfortable that we can start tweaking up the growth on the lending side, but we will be monitoring this very closely. And if the environment shifts, we are very, very agile and can shift very quickly as well.

Tito Labarta, Analyst

Great. That's very clear. Very helpful. One follow-up, if I may. Thanks for Slide 10, showing that profitability in Brazil. You're showing annualized of 40%, but you still have a very under-levered balance sheet. And efficiency is improving pretty quickly. But do you think there's still upside to that 40% ROE in Brazil as you expand the product base, the whole up-sell and cross-sell to your clients? And do you think there's some upside to that number from here?

Guilherme Lago, CFO

Tito, we think that the profitability levels that we are showing now are a good testament of the long-term potential of the profitability that we can have as a digital bank. It provides clear evidence in our view about the cost modes and the revenue advantages that we have. So in the long term, we do believe that there is more upside optionality there. In the short term, we don't provide guidance. So for 2023, we do expect to see some puts and takes in this equation. Would you expect, on one hand, to see the cap on the interchange of prepaid cards coming into fruition on April 1. We do expect that as we accelerate growth, this will now put additional weight on our margins. Conversely, as tailwinds, we expect that we will continue to grow and extract even more operating efficiency out of our system. So all in all, we think 2023 is another year of a healthy level of returns on equity, respected seasonality across the quarters. In the long term, we believe that there is more profitability for us to extract from the model that we have seen so far in Brazil. And we also hope that Brazil is also a good showcase of what we can develop in other geographies. So as we can see in the S curve that David showed, Mexico and Colombia are a few years behind Brazil, but we have no doubt that they will achieve profitability levels at the same ZIP code as the ones that we are achieving in Brazil in a few years.

David Velez, CEO

And just to add a bit on that, Lago, I think ultimately, if you take a step back and go back to the kind of first principles of the business model that we've always been espousing is the model of digital banking should provide much higher ROE than traditional banking because ultimately, you are operating with costs that are over 85% lower than incumbents. We don't have branches on every corner. We don't need hundreds of thousands of employees. We do need a lot of very expensive headquarters. All of that, we don't need to serve customers and even provide a better experience. So that has always been sort of the hypothesis. We've tried to prove it through unit economics when we show economics of the products that we have, the lining they reach upwards of 60% in credit card, they're 100%. But now we finally get to prove it to you with an actual geography like Brazil that is at a mature level and showing this level of ROE. While there are some benefits of seasonality in Q4, as Lago mentioned, ultimately, that is the direction that I think model will converge towards in Brazil and in other geographies as well.

Jorg Friedemann, Investor Relations Officer

And our next question comes from the line of Mario Pierry of BofA.

Mario Pierry, Analyst

Congratulations on the quarter. A quick question from me. When I look at your net interest margin evolution, you clearly benefited from lower funding costs. But we're looking here at the model. And we're also seeing higher lending spreads on your products. Even though your mix is going against you, given you're growing more in credit cards and personal loans. So my question is related to your ability to continue to price, not only given the competitive environment, but the health of your clients, right? Like we know the economy in Brazil. It's okay. It's not doing great. We know that our consumers in Brazil are facing the effects of higher rates, higher inflation, disposable incomes. So I just wanted to understand here if you see much more room for repricing your product. And as a follow-up to that question, we have been hearing a lot of noise in Brazil of potential implementation of interest rate caps on credit card loans. If you could discuss that as well, that would be helpful.

Guilherme Lago, CFO

Mario, thank you for your question. I'd like to address your inquiries, starting with net interest margin and then discussing the cap on credit cards. Regarding net interest margin, as noted on Slide 22 of our presentation, we've observed significant growth over the past four quarters. We anticipate this trend will continue for two main reasons. First, we expect our credit portfolio to grow faster than our deposits, leading to an increased loan-to-deposit ratio, which should positively impact net interest margins. Second, the ongoing decrease in funding costs should enhance our margins as well. We're not depending solely on repricing our products, but we anticipate a shift in our mix throughout 2023. For example, unsecured personal loans may see higher growth compared to credit cards, and we also expect the introduction of public payroll loans. This shift in product mix should contribute to an overall increase in net interest margin. So, to summarize, we expect net interest margins to remain healthy, driven by volume growth and lower funding costs. As for the cap on credit cards, we've engaged with several analysts and investors about this longstanding issue in Brazil. It's been a topic for over a decade, and we've put considerable effort into understanding and participating in related discussions. We don't anticipate any immediate changes to the unit economics of credit cards since it's a complex product. Altering one aspect, like interest rates, typically requires adjustments to others, such as interest-free installments, leading to complicated outcomes. We believe that imposing interest rate caps on credit cards could reduce financial inclusion and credit availability, which runs counter to the goals of the Brazilian Central Bank and the current administration. Therefore, we don't foresee immediate risks in this area, but we are monitoring the situation closely and engaging in the conversation.

Jorg Friedemann, Investor Relations Officer

And our next question comes from the line of Gustavo Schroden from Bradesco.

Gustavo Schroden, Analyst

Congratulations on the strong bottom line. My question is about net income. I know you don't provide official guidance, and I heard your response to Tito's question. However, if we annualize the fourth quarter results, it could give us an idea of what net income might look like in 2023. I'm trying to understand if it would be reasonable to use the fourth quarter results as a benchmark for earnings in the upcoming quarters of 2023 or if you anticipate any changes that could affect the dynamics we observed in the fourth quarter.

Guilherme Lago, CFO

Gustavo, thanks so much for your question. It's a challenging question to address as we don't provide guidance. But I think 2023 provides for a mix of puts and takes, as I mentioned to Tito. On average, we expect that we will continue to post relatively healthy levels of returns on equity and bottom line profitability in Brazil. Although we do expect to continue seeing seasonality playing its role throughout 2023, as we have seen in 2022. If you take a look at Slide 11 of the presentation, you will see that our adjusted return on equity for the third quarter of 2022 was about 20%, that it went up to 40% in the fourth quarter. So we expect to continue to see those trends throughout 2023, but healthy levels of profitability nevertheless. Two things I would highlight, however. As you look at Nu Mexico and Colombia, we continue to invest, and we will continue to invest in both of those countries as we have invested in Brazil. It has taken Brazil almost now nine years, 10 years to get to today's profitability levels. We think that Mexico and Colombia will still take a few years, but we will be able to shorten that cycle over the coming decade. However, as I mentioned in my opening remarks, Gustavo, we will not manage the Company trying to optimize for next quarter or next two quarters ROE. We will optimize the results for the long term, yet the business model in Brazil shows very vivid signs of profitability that we expect to continue to showcase to analysts and investors as we evolve. No, absolutely. Let me try to provide some guidance or not guidance, but I'll provide some color on those questions. I would draw your attention to Slide 35 of our presentation. There, you can see our capital position. First and foremost, we do believe that our business plan in Brazil, Mexico, and Colombia is fully funded. We have plenty of capital, plenty of liquidity to support the growth, organic growth of Brazil, Mexico, and Colombia over the coming years. We do appreciate, however, that Mexico and Colombia can be more capital intensive compared to Brazil, especially because of the working capital cycle of credit cards in those countries and also because of how much interest earning is used in credit cards. So in Mexico and Colombia, the working capital cycle is D+1, D+2 in comparison to Brazil, which is D+27. The percentage of the credit card book that is allocated to the interest-earning portfolio is higher than it is in Brazil. For these two reasons, it is more funding intensive for us to operate in those two countries, and we will have to develop very soon our deposit base in Mexico and Colombia. Eventually, those will become the countries where they will also be more capital intensive with higher levels of return on assets there.

Jorg Friedemann, Investor Relations Officer

And our next question comes from the line of Marcelo Telles at Credit Suisse.

Operator, Conference Call Operator

It seems that we are having problems with the line of Marcelo Telles. So let's move on to the next question. And the next question comes from the line Pedro Leduc at Itau.

Pedro Leduc, Analyst

I wanted to get your thoughts on loan book growth in relation to provision expenses. How are you seeing non-performing loans evolve? This quarter they increased slightly, and there’s some seasonality involved. Stage 3 formations have been high and coverage has decreased. As I assess 2023, I can see the strength of net interest income compensating for slower loan book growth, even though there is some growth. However, I find it difficult to predict a reduction in provision expenses as a percentage of the loan book this year or in the near term. Does that make sense?

Youssef Lahrech, President and COO

Thank you for the question, Pedro. Let’s break it down. Regarding provision expense, I recommend checking Page 48 of our earnings presentation appendix, which outlines the factors influencing that figure. Similar to previous quarters, growth accounts for about 90% of the provision expense. In terms of credit quality and non-performing loans (NPLs) beyond what I mentioned earlier, it's crucial to differentiate between NPLs of 15 to 90 days and those over 90 days. The number of loans between 15 and 90 days has decreased sequentially, aligning with seasonal trends. On the other hand, the increase in loans over 90 days represents a cumulative metric, largely influenced by credit card delinquencies that can remain in that category for up to a year. We are observing behaviors in these metrics that align with what we expected. Moving forward, I find it challenging to provide precise guidance since the pattern of delinquencies will rely on various factors, including the volume and mix of our own loans and broader economic influences. However, we anticipate that Q1 will typically experience a seasonal peak in delinquencies, following a low in Q4, with Q2 and Q3 returning to more standard levels.

Pedro Leduc, Analyst

Sorry, if I may follow up, the outlook for provision expenses vis-à-vis loan book growth on a relative basis for 2023, exactly coming down gradually as the year goes? How are you guys seeing that?

Youssef Lahrech, President and COO

Yes. Peter, I expect the trends we observed in previous quarters and in Q4 to persist. The provision expenses will mainly be influenced by the growth in the loan portfolio, with most of it, as shown on Page 4, being driven by that growth. It’s not just about the volume of growth, but also the composition. There are slightly different factors at play between credit cards and unsecured lending, and introducing security will also alter the mix over time.

Jorg Friedemann, Investor Relations Officer

And our next question comes from the line of Thiago Batista at UBS.

Thiago Batista, Analyst

Congratulations on the results. I have a question about the impressive 40% return on equity that you reported for the operations. Do you know what the profitability would be if the bank's capital regulations were already in place? Specifically, what would the return on equity look like with the fully loaded capital requirement in Brazil? Additionally, should the payroll loan business be considered as potentially dilutive for that return on equity?

Guilherme Lago, CFO

Thank you for your question, Thiago. The return on equity numbers should remain relatively stable under the new regulation because, by the end of 2022, we were already operating at a comprehensive Basel requirement in a range of 9% to 10%. This is expected to gradually increase from 2023 through 2025; however, our capital base is comparable to other financial institutions that were subject to the previous regulation. We can certainly work with you after the call to adjust our range from 9.5% to 10.5%, but overall, the levels of returns we are currently achieving should not change significantly, mainly because we are considerably overcapitalized in Brazil. If you check our financial statements on the last page, you'll notice that the capital ratios of our financial institutions exceed 20%, as do those of our payment institutions. Regarding your second question, I do not believe that payroll loans will negatively impact our overall return on equity. We anticipate that the return on equity and return on tangible equity will be in line with or exceed the figures we reported in the fourth quarter of 2022. I hope this addresses both of your questions.

Jorg Friedemann, Investor Relations Officer

And our next question comes from the line of Neha Agarwala from HSBC.

Neha Agarwala, Analyst

Congratulations on the results. I'd like to talk about asset quality a bit. Could you give us a sense of what would be the asset quality, the NPL ratio today? With the older methodology, if that's possible. And we've seen the early delinquencies come down during this quarter, which is a good sign. Does this mean you're feeling a bit more comfortable regarding asset quality? Or are there pockets of variability that you continue to remain cautious about? And how do you see that impacting originations in the coming quarter? In 2022, you're very clear that you would probably like to maintain originations at a level of 5 billion every quarter. Should we expect that to be accelerated in 2023? And what do you see the risks regarding that acceleration?

Youssef Lahrech, President and COO

Let me first address your question about the impact of the change in write-off methodology we implemented at the end of the second quarter last year on non-performing loans (NPLs). As we have reported in previous quarters, you should consider the effect of 90-plus NPLs as a reduction of 220 basis points for the quarter, which aligns with what we've seen in prior quarters. Regarding NPL trends, as you noted, there has been a shift in the 15 to 90 days overdue category. Some of this was due to seasonality, while other improvements are a result of enhancements we made throughout the year in our underwriting process, particularly for personal loans. As mentioned in earlier quarters, we adopted a more cautious approach given the uncertainty during the year, and we have experienced very positive outcomes from that, both in terms of the re-pricing we've implemented on the top line and the NPLs. Overall, we feel optimistic about what we're observing from a risk-return perspective, which contributed to a sequential increase of approximately 10% in personal loan originations, as Lago mentioned. We are encouraged by these trends. While it's challenging to provide very precise forward guidance, we currently feel comfortable about the trends we're witnessing.

Neha Agarwala, Analyst

Sorry, I did not get the 90-day NPL ratio under the old methodology, what would the number be approximately? Do we have that?

Youssef Lahrech, President and COO

Yes, to clarify the new methodology: it primarily impacts personal loans, changing the timing of write-offs from 360 days to 120 days in accordance with IFRS principles related to recovery expectations. By adjusting the write-off period, we are essentially shifting the classification of delinquency from 120 days to 360 days, which tends to reduce the 90-plus NPLs. This change has resulted in a decrease of about 220 basis points when comparing the new methodology to the old one, and this trend has been consistent across multiple quarters since the implementation. I hope that explanation was clear.

Neha Agarwala, Analyst

Okay. Okay. I was just wanting to confirm about the 220 basis points difference. That's perfectly okay. And regarding asset quality, if you could just elaborate at this point like it seems like things are getting better, early increases are coming down. What worries you regarding asset quality? Is there any particular exposure that varies you? Or are you just cautious about the macro and trying to take it slow, keeping an eye on asset quality?

Youssef Lahrech, President and COO

Yes. So on that, I mean, I think it's helpful to kind of take a step back and rewind the clock a little bit to where we've come from through the pandemic period. So what we saw is starting in the second half of 2020, very low levels of delinquency abnormally low because consumers were saving money, there were government interventions, and so forth. For a bunch of reasons, we were in abnormally low delinquency territory. It was very clear that the trend was going to be normalization moving upwards of delinquencies. I personally think that cycle has largely played out, and we're now in a new part of the cycle. So it's a little bit more of a higher uncertainty part of the cycle. For us, the stance is to be cautious. We're not worried about particular pockets, but we're always prepared to adjust our underwriting based on anything we see in our monitoring. We've actually built our underwriting system to be able to iterate very dynamically, very quickly adjust if we see things play out different from our expectations in either direction. But I would say in the last two quarters, particularly in Q4, we've seen relative signs of stability, and we've seen NPLs come in fairly close to our expectations.

Jorg Friedemann, Investor Relations Officer

And our next question comes from the line of Jamie Friedman at SIG.

Jamie Friedman, Analyst

Let me echo the congratulations. I wanted to follow up on some earlier questions, including those from Neha. Lago, when you were discussing Slides 18 to 20, it seemed like there was a suggestion that there could be an increase in originations. I understand you don't provide guidance, but many people are inquiring about this. So, Lago or Youssef, what would give you more confidence in expanding the credit limits? It appeared that in 2022, the credit limits were increased and then reduced multiple times. Can you clarify where we stand now and what would make you more confident about lending again?

Guilherme Lago, CFO

Jamie, thank you so much for the question. Let me try to address and then I'll also invite Youssef to complement. I think there are a few aspects that he addressed in his response to Neha that would help us here as well. If you take a look at our presentation Slide 18, you're going to see that the growth that we have had is of no basically two as I mentioned in my opening remarks. Number one is credit card. Credit card has grown over the past year at a clip of about almost 70% year-on-year. We continue to see very strong support in this growth throughout the first quarter of 2023. We believe that we're going to have another strong year at 2023 as a whole. In personal loans, as you can go to Slide 20 and now referring to some of the comments that Youssef made earlier in the call, we were, in fact, a little bit cautious throughout 2022. We waited for a few quarters for delinquency to stabilize. We have seen delinquency stabilizing in the third quarter, but primarily in the fourth quarter. If you take a look for the fourth quarter, we have already started to accelerate the originations of personal loans. It went from about BRL 4.6 billion to BRL 5 billion, so no more or less 10% growth. All else constant, by which I mean if we continue to see no losses and delinquencies playing out as per our expectations, you should expect to see ourselves growing a bit more in the originations of personal loans throughout 2023. Now in 2023, you should also expect to see our launching secured personal loans, mostly public payroll loans, which should be an additional growth engine for our loan book throughout 2023 and 2024. But Youssef, I'm not sure if you have anything to add to Jamie's questions.

Youssef Lahrech, President and COO

Yes. Jamie, just to add a couple of things to that in terms of how we think about the credit box and tightening or loosening. I mean, we operate always working backwards from booking every loan, every credit grant to be NPV positive throughout the life of the loan and to pass fairly strict conservative resilience requirements. So typically, we want every cohort of customers to be able to sustain a doubling of risk and still be above hurdle returns. And so that's what we work backwards from and we kind of observe in our monitoring the latest behavior of our latest cohorts and adjust accordingly. So it's unusual that we make wholesale changes to our underwriting scorecard at any given point in time. It tends to be much more dynamic, much more gradual, making much more tweaks around edges unless there are extraordinary events. You're seeing a little bit of that in the fourth quarter with the increase in personal loan volume. Again, if performance continues to come in for our expectations, that trend should continue. The other thing to think about is beyond tightening and loosening the credit box, what impacts our underwriting or our originations is the quantity of customers we have been able to us to underwrite, and in particular, the quantity of customers for whom we have a lot of data. So if they're already PBA customers, primary banking account of customers, that gives us a lot more confidence and a lot more certainty in terms of being able to underwrite them for credit cards or higher limits or personal loans.

Jorg Friedemann, Investor Relations Officer

And our next question comes from the line of Eugene Simuni at MoffettNathanson.

Eugene Simuni, Analyst

I actually wanted to ask a question on your 2023 priorities. Specifically, it was very helpful to hear, I think, David, in the beginning of the call, you got called out a couple, I think, strategic areas that you're looking to focus on in 2023, including secured loans, affluent segment. Obviously, Mexico and Colombia. I wanted to ask from a product angle, some new product launches or maybe the products that are early in their development that you're focusing on for 2023? What's the top two, three products there that we really should be watching this year?

Jag Duggal, Chief Product Officer

This is Jag Duggal. I'm the Chief Product Officer at Nubank. Let me take a swing at your question and complement what David said and reinforce some elements of it. There are a series of launches that we are really happy with that either recently happened or are pending. First, I'll reinforce a couple that both David and Lago have mentioned. We are excited at Nubank year-by-year to go after the largest profit pools in the markets that we operate. So we started with credit cards and moved over the last couple of years into unsecured lending. Now we're excited to move into secured lending, which is the third largest profit pool in the country, starting with a big focus on loan secured via public payroll. We also have investment-backed loans, which we've recently launched, and we're looking to build out our secured loan portfolio. So just reinforcing that point. You also mentioned and David mentioned the focus on building up a deposit base in Mexico and ultimately, in Colombia as well by opening up our bank account product in both of those countries this year. That will be important in its own right as part of broadening our product offering for our customers and also to help drive funding for credit as those markets evolve. A few other products that I will mention. First, one that we launched a little while ago, but is now getting to the point where we're starting to make it available to more customers is our credit card product for small businesses, our credit card product, which again allows us to, a, address the credit card market; but b, also broaden our offering for small businesses and build out the other side of our network. The other product that I would mention to you is the product we just announced publicly, I think it was yesterday, which is auto insurance. Again, it's just an example of us rounding out our product portfolio, particularly for customers who are in the middle and upper parts of the income spectrum. So that stands out. We're also continuing to work on scaling up our Money Boxes, which we've talked a lot about, and our ultraviolet off-market credit card, which has shown a lot of promise in the last several months. So those are a few of the things that I would highlight for you.

Jorg Friedemann, Investor Relations Officer

And our next question comes from the line of Alexander Markgraff at KeyBank.

Alexander Markgraff, Analyst

Maybe first, just on the credit portfolio. I wanted to ask just on Slide 19, the 12% receivables mix of installments, obviously, kind of above market. Just curious as to where you're comfortable or kind of targeting that 12% to trend in the near and long-term.

Guilherme Lago, CFO

So, regarding the growth in interest-earning receivables and credit cards, we successfully launched several new features that allow customers to finance purchases and payments, including barcode payments, which is one of the latest features we've added. We've observed significant success and strong adoption, indicating positive behavior from customers. Instead of working toward a specific target number, we are witnessing robust customer engagement with these features and favorable economics. Looking ahead, we will continue to test and roll out new features. Therefore, it is challenging for me to provide specific guidance on future numbers, but we are pleased with the customer adoption and performance of the credit card financing features we've introduced.

Alexander Markgraff, Analyst

Okay. That's helpful. And then maybe just one more kind of macro-related question. Just some kind of help or commentary on how you're thinking about potential TPV tailwinds and headwinds for '23. I'm not looking for guidance, but just more generally speaking, how should we think about some of the puts and takes for '23 on TPV?

Guilherme Lago, CFO

Historically, if you examine TPV over the last three years, the market has experienced growth rates of 30% to 35% annually, mainly due to a recovery from pre-COVID levels. Currently, the market anticipates that the overall TPV will grow at low double-digit rates for 2023 and 2024. However, we expect our cards business to grow significantly faster than that, as we aim to increase our market share in both credit and prepaid/debit cards. Over the past two years, we have been gaining market share at a rate of approximately 150 to 250 basis points each year. We expect this trend to continue strongly in 2023 and 2024.

Jorg Friedemann, Investor Relations Officer

Thank you, Lago. Thank you, everyone, and this concludes today's call. On behalf of Nu Holdings and our Investor Relations team, I want to thank you very much for your time participation in our earnings call today. We are very excited to continue growing and strengthening our position in Brazil, Mexico, and Colombia. Over the coming days, we will be following up with the questions received by our platform. So please do not hesitate to reach out to our team if you want to make any further questions. Thank you, and have a good night.

Operator, Conference Call Operator

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