Earnings Call Transcript - QFIN Q1 2023

Karen, Senior Director of Capital Markets

Thank you, operator. Hello, everyone, and welcome to Qifu Technologies' First Quarter 2023 Earnings Conference Call. Our earnings release was distributed. Joining me today is Mr. Wu Haisheng, our CEO; Mr. Alex Xu, our CFO; and Mr. Zheng Yan, our CRO. Before we start, I would like to refer you to our safe harbor statements in the earnings press release, which applies to this call as we will make certain forward-looking statements. Also, this call includes discussions on certain non-GAAP financial measures. Please refer to our earnings release, which contains a reconciliation of the non-GAAP measures to GAAP measures. Also, please note that unless otherwise stated, all figures will be in RMB. Now, I would like to turn the call over to our CEO, Mr. Wu Haisheng. Please go ahead.

Wu Haisheng, CEO

By the end of Q1, our platform cumulatively connected approximately 46 million users with approved credit lines and a total of 150 financial institutions. Total loan facilitation and origination volume on our platform reached RMB 109.5 billion, up by 10.7% year-over-year and 4.7% quarter-over-quarter. Cumulative users with approved credit lines increased 15.6% year-over-year. The growth was better than our initial expectation against the backdrop of the rate recovery in China's macro economy. Since the beginning of this year, we have seen positive overall trends in our business, including credit demand from users steadily increasing and continuous improvement across multiple risk indicators. Pricing remained stable during the quarter with our user base having been substantially optimized. At the same time, we continue to upgrade our risk management models, including the release of more than 1,000 version updates, an iteration of over 30,000 strategic rules to our credit assessment models over the past 12 months. We also further upgraded our PBOC credit data assessment models. Since Q3 last year, we have started to incorporate PBOC credit data into our ongoing post credit assessment process on a large scale. With over 20,000 derived data dimensions, we are able to unlock the value of our existing users with enhanced credit assessment capabilities. Supported by our constantly improving ability to accurately identify risks, our day 1 delinquency rate in April 2023 decreased by 37 basis points from December 2022, while our M1 production rate increased by 189 basis points for the same period. With our risk performance having substantially reached our target, we are more confident in gradually ramping up investments in customer acquisition in the near term. Liquidity in the financial system was ample during the quarter with total social financing and M2 money supply increasing by 10% and 12.7% year-over-year, respectively. This enables us to further diversify our funding sources and reduce our funding cost by 30 basis points sequentially. In addition, with our solid risk performance in the loan facilitation model, we have obtained more allocation from our financial institution partners for ABS issuance, thereby accelerating our pace of issuance. In Q1, we issued RMB 2.3 billion of ABS, up 77% year-over-year, outpacing the growth of overall consumer loan ABS issuance in China. Our funding costs associated with ABS issuance also decreased by 17 basis points sequentially, contributing to a further reduction in overall funding costs. Going forward, we will continue to deepen our partnerships with financial institutions and strengthen our competitive edge in terms of funding costs. We expect overall funding costs to remain generally stable over the next few quarters. In terms of customer acquisition in Q1, we entered into a cooperation agreement during the quarter, becoming one of its first batch of fintech marketing pilots. We also launched precision marketing with the RTA model in the app store of major mobile phones. This rigid marketing model will help us improve our marketing efficiency on the relevant app store platforms. For example, our customer acquisition cost per credit is significantly lower than it had been in the traditional model. Within our embedded finance business, we connected with additional traffic platforms, which resulted from new users receiving credit lines. In addition, we have been exploring innovative ways to acquire new customers. The official live streaming accounts for our 360 Jietiao product was launched on a video platform in April, and the marketing effect is better than our expectations. We further expanded our outreach to existing users and optimized operational strategies to boost user conversion and retention. In Q1, we introduced enterprise WeChat as a new channel for engaging with our existing users, which drives user conversion by offering a step-by-step guide through the loan application, drawdown, and submission process. As of today, we have engaged with more than 200,000 existing users. Furthermore, we also improved user retention by optimizing our product offerings and user experience based on extensive surveys of our existing users. As the macro economy gradually recovered, we noticed that demand has been rebounding rapidly among broadly defined SME borrowers. To cater to this demand, we strategically strengthened our ability to identify and manage the specific segments. We enhanced our customer profiling capabilities by improving data dimensions such as credit history, invoice, and e-commerce transactions, building industry data that allow us to accurately identify customers within the broadly defined SME segment, which accounts for more than 40% of our current user base. Our next step is to conduct pilot tests on a selected group of users aimed at developing differentiated products and fine-tuning risk management strategies for the broadly defined SME segment, which we believe has the potential to drive meaningful growth for our business. For our Technology Solutions business, our focus in Q1 was on enhancing our product capabilities. Specifically, we extended the scope of our solutions beyond personal consumer loans to include individual business loans. Our diversified deployment method allows us to better serve the needs of each financial institution we work with. So far, we have developed standardized products based on our core technological capabilities and created 18 standardized modules covering every aspect of the credit business, including customer acquisition, risk management, operations and accounting, etc. We also incorporated our extensive credit industry know-how into the modules, which empowers financial institutions with expertise and algorithms from the moment they onboard. Over the past few months, ChatGPT has significantly impacted various industries since its release. We believe that generative AI technology has many natural applications. For example, in areas such as intelligent customer service, telemarketing, and loan collection, ChatGPT can better understand user emotions and facilitate natural and personalized interaction with users. In risk management, it can derive useful information from credit reports and identify relevant factors for our risk management models. In April, we established a large language model department. This new strategic division is dedicated to developing various deep learning algorithms and generative AI technologies, specifically for applications in the financial sector. We have already launched the first version of GPT for internal use, which is designed to perform semantic analysis in our loan collection and telemarketing processes. Through GPT analysis of user intentions and labeling, we can see that users of different labels have clear variations in the effectiveness of cashing and telemarketing. Apart from applying generative AI to enhance user experience and our operational efficiency, we also plan to gradually export such capabilities to our financial partners. On the regulatory front, we continue to make steady progress in complying with credit agency reform in Q1. We have substantially completed the required integration of systems with our financial partners according to the plan we submitted to the regulator. So far, our loan facilitation progress through the regulatory model has been very smooth. Given the current regulatory focus on promoting economic developments, we believe the industry will be able to deliver healthy growth in a stable regulatory environment. Looking ahead, while the economic recovery is still in its early stage, the trend for recovery is clear. We believe that the macroeconomic environment will gradually improve throughout the remainder of the year. We are also confident in our ability to capitalize on the recovery momentum and deliver on our growth effectively. Finally, I have some news to share with you. Our Board of Directors has just passed a resolution to increase our dividend payout ratio as we continue to drive quality growth and create shareholder value. It is also important to listen to the market and share the balanced growth with our shareholders. We believe this will enable us to enhance the value of our company. Alex will share more about this later. With that, I will now turn the call over to our CFO, Alex, who will walk you through our financial results for this quarter.

Alex Xu, CFO

Thank you, Haisheng. Good morning and good evening. Welcome to our first quarter earnings call. The first quarter set a positive recovery year with improvement in many aspects of our operations. User activity levels continued to improve in recent months, aside from normal seasonality. Although we still don't want to call the recovery a modest one, things are indeed trending a little bit better than we initially saw. As Haisheng discussed earlier, with macro conditions improving throughout 2023, we intend to focus on our efforts and deploy our resources to drive growth while maintaining desirable asset quality. In Q1, we targeted a high-quality and low-risk user base and aimed to drive further improvement in risk performance. Key leading indicators in day 1 delinquency have been on a steady declining trend in recent quarters, standing at 4.1% in Q1 versus 4.3% in Q4, further declining to approximately 4% in April. The continued improvement in day 1 delinquency mainly reflects the macro improvements as well as further optimization of our algorithm. The 30-day collection rate was 86.2% in Q1 versus 84.7% in Q4. This sharp rebound from the COVID disrupted Q4 mainly reflects a return to normal collection operations. As economic recovery continues, we see further improvement in these metrics, with the 30-day collection rate already near 87% by late April. Total net revenue for Q1 was CNY 3.6 billion versus CNY 3.9 billion in Q4 and CNY 4.3 billion a year ago. Revenue from loan facilitation has seen a decline, as further adjustments were made. During the quarter, we noticed an increase associated with the Chinese New Year but still felt the effects from mortgage early repayment momentum and oversupply of liquidity at the beginning of the year. Looking ahead, we expect early repayment levels to stabilize in Q2 as these matters gradually ease. On the balance sheet, loans continue to grow at a faster pace and account for nearly 20% of the total loan volume. We continue to strive for better utilization of our capital and our micro-lending license. Revenue from platform service, which is capital light, was CNY 969 million in Q1 compared to CNY 1.1 billion in Q4 and CNY 1.4 billion a year ago. The year-on-year and sequential decline was also mainly due to the overall decline in the expected average tenor of new loans, as well as further adjustments to the expected tenor of existing loans. For Q1, capitalized loan facilitation and other technology solutions combined accounted for roughly 56% of the total loan volume, which was roughly flat versus the prior quarter. We expect the risk ratio to remain relatively stable throughout this year. In the long run, we will continue to pursue a tech-driven business model while seeking balance among various forms of non-risk-bearing solutions based on the macro environment and operational conditions. During the quarter, average IRR prices of loans we originated and/or facilitated remained stable quarter-on-quarter, well within the regulatory rate cap requirements. Looking forward, we expect pricing to be relatively stable for the coming quarters. Sales and marketing expenses increased marginally quarter-on-quarter, as recovery in our user activity was offset by the seasonal impact of the Chinese New Year. We added approximately 1.5 million new credit line users in Q1, which was flat compared to Q4. The cost to acquire a new credit line user also increased marginally. While we will continue to drive for efficiency in our operations, we may adjust the pace of new user acquisition as the economic recovery continues throughout 2023. Meanwhile, we will continue to focus on reenergizing our existing user base, as repeat borrowers historically contribute a vast majority of our growth. Although we will continue to take a prudent approach to booking provisions against potential credit loss, we should expect increasing write-backs from provisions from prior periods, as the overall risk profile of our loan portfolio gradually improves along with macro conditions. Total new provisions for risk-bearing loans in Q1 were approximately CNY 1.7 billion, while the write-back of previous provisions was approximately CNY 411 million. The provision coverage ratio, defined as total outstanding provision divided by the total outstanding delinquent loan balance, between 90 and 180 days stood at 432% in Q1 compared to 456% in Q4. With solid operating results and stable contribution from our capital-light model, our leverage ratio, defined as risk-bearing loan balance divided by shareholders' equity, was at a historical low of 3.4x in Q1 compared to 4.2x a year ago. We expect a relatively stable leverage ratio for the time being until contributions resume growth in the future. We generated approximately CNY 1.8 billion in cash from operations in Q1, roughly flat quarter-on-quarter. Total cash and cash equivalents stood at CNY 9 billion in Q1 compared to CNY 10.9 billion in Q4. Non-restricted cash was approximately CNY 5.1 billion in Q1 compared to CNY 7.2 billion in Q4. The sequential decline in our cash position was primarily due to increased cash usage in our balance sheet lending. As we discussed earlier, with economic conditions improving, we may look for opportunities to deploy resources, launch new initiatives, develop new technologies, and expand our service offerings. Non-GAAP net profit was CNY 976 million in Q1 compared to CNY 919 million in Q4. As we continue to generate healthy cash flow from operations, we believe our current cash position is sufficient to support our business development and return value to our shareholders. Since Q3 of 2021, we have paid out a total of CNY 1.34 billion in cash dividends to our shareholders over 6 consecutive quarters. To generate high returns for our investors and solidify and expand our long-term investor base, the company's Board of Directors approved a new dividend plan yesterday. The new plan increases our dividend payout ratio to 20% to 30% from the previous 15% to 20% of net profit. Additionally, to reduce the transaction cost for our shareholders, the new plan implements a semiannual dividend distribution schedule to replace the quarterly dividend schedule of the old plan. The first semiannual dividend payout will be declared in our Q2 earnings release. Finally, regarding our outlook for 2023, we are starting to see a gradual recovery in the macro economy, and our business activities are also trending a bit better than previously thought. It may still take extra time for consumer confidence and behavior to return to normal. At this juncture, we still see a modest recovery in consumer credit demand, with growth rates potentially accelerating throughout the year. As such, we would like to maintain our full-year total loan volume target for 2023 at between RMB 455 billion and RMB 495 billion, representing year-on-year growth of 10% to 20%. As always, this forecast reflects the company's current and preliminary view, which is subject to material change. With that, I would like to conclude our prepared remarks. Operator, we can now take some questions.

Operator, Operator

Our first question comes from Frank Zheng from Credit Suisse.

Frank Zheng, Analyst

This is Frank from Credit Suisse. I have two questions. The first one is on the strategic focus for the rest of the year. Could the management provide more color on measures, for instance, more aggressive client acquisition, optimization of existing clients, and potentially further upgrading client segments? And second question is on operating expenses. What are some of the measures the company is taking to be operationally more efficient?

Wu Haisheng, CEO

Thanks, Frank. I will answer your first question, and I will pass the second question to Alex. Regarding this year, we will say that new customers and existing customers are equally important. So, in terms of the new customer acquisition, our efforts will focus on two aspects. First, we will continue to expand our partnerships with different channels and increase the depth of the partnerships. For example, we have been trying live streaming on some short-form video platforms, and we innovatively utilize the IT model in our app store marketing. The results are better than our initial expectations. The second aspect is that we used the ICE model to increase our recognition of the users' willingness to borrow. This allows us to optimize our offers and increase our users' conversion ratio, thereby increasing the lifetime value of our users. We aim to improve our competitiveness in customer acquisition. This is about new customer acquisition. For our existing users, we actually have a very significant base, and it's very important for us to increase our efforts on these existing users to improve conversion effectiveness. For example, we have tried using enterprise WeChat to better engage our existing users and increase conversion effectiveness. We also refine our risk management models to better understand our users and identify different user profiles. We believe it is important, especially given the moderate economic recovery environment, to increase our efficiency at this stage, so we will enhance our coverage in terms of channels and partnerships to improve our marketing efficiency and drive further growth.

Alex Xu, CFO

So basically, regarding the operating expenses trend going forward, there are a few aspects. One is that some operating expenses are variable costs, for example, costs associated with obtaining credit scores and those incurred during transactions, such as sending messages or SMS. We have a long-term relationship with our suppliers, and every year we can always squeeze a little bit from the cost base on a per-unit basis, but the room for that is not really that much. The other big part of the variable cost is really customer acquisition. I think we had discussed this earlier. Last year, our cost per credit line user acquisition was about RMB 370 or RMB 360 per user. This year, we intend to lower that to somewhere around RMB 330. The first quarter cost was only about RMB 280, less than RMB 290. So in the following quarters, as we increase the pace of customer acquisition, you may see some increase in marketing spending. However, overall, we expect a lower unit cost per credit line user acquisition. Other back-office related fixed costs will remain under tight internal control, including headcount and IT spending.

Operator, Operator

Our next question comes from the line of Alex Ye from UBS.

Alex Ye, Analyst

So my question is mainly on the loan pricing outlook. Firstly, in terms of the competitive landscape, we have seen the overall consumption recovery and consumer credit data has been quite modest in April. So could you share some color on the current trend regarding capacity pressure from different players? Secondly, would you consider lowering your loan pricing in order to stimulate some loan drawdown demand from your existing customer base?

Wu Haisheng, CEO

Thanks, Alex. From a competition perspective, we believe that for our industry, the recovery of credit demand is more important for competition than the impact of competition itself. Additionally, the segmentation of the industry is quite clear at this stage. We differentiate ourselves from both large banks and smaller players, targeting different customer segments and pricing brackets, with limited overlap among competitors. On our service capability, we have wide coverage of various users. We can cater to both lower pricing and higher pricing users. By further refining our risk management models, we can provide differentiated products and offerings to better serve our users. Periodically, as long as our model is accurate enough, we can maintain strong competitiveness. In terms of pricing, we are considering reducing prices to better engage some of our users. As long as our model is accurate, we can serve them effectively and increase overall value from such strategies. From an overall pricing perspective, we expect pricing to remain stable compared to current levels.

Operator, Operator

Our next question comes from the line of Richard Xu from Morgan Stanley.

Richard Xu, Analyst

So essentially my question is on the loan demand, particularly on the sequential change from potential borrowers in recent months and any divergent trends among different regional borrower groups in terms of loan demand, income growth, and credit quality.

Wu Haisheng, CEO

In terms of credit demand recovery, we have seen two trends: one is moderate recovery, the other is divergent recovery. From a regional perspective, areas like Shanghai are recovering faster than others, which aligns with the incremental social financing by region published by the government in Q1. From a customer segment perspective, we have observed that higher-quality users are recovering faster, with increasing credit sizes. Additionally, broadly defined SME groups are also recovering rapidly, especially from the service industries.

Operator, Operator

We have reached the end of the question-and-answer session. Thank you very much for all your questions. I'll now turn the conference back to the management team for closing remarks.

Alex Xu, CFO

Okay. Thank you. Thanks to everyone for joining us. If you have additional questions, we can discuss offline. Thank you. Have a good day. Bye, bye.

Operator, Operator

Thank you. This concludes today's conference call. Thank you for participating. You may now disconnect.