Earnings Call Transcript - YRD Q2 2024

Keyao He, Investor Relations Officer

Thank you, operator. Good morning, good evening, everyone. Today's call features a presentation by our Founder, Chairman and CEO of CreditEase, Mr. Ning Tang; and our CFO, Ms. Na Mei; our new CFO, Mr. Yuning Feng, will also attend the Q&A session after the prepared remarks. Before beginning, we'd like to remind you that the discussions during this call contain forward-looking statements made under the safe harbor provision of U.S. Private Securities Litigation Reform Act of 1995. Such statements are subject to risks, uncertainties, and factors that can cause actual results to differ materially from those contained in any such statements. Further information regarding future risks, uncertainties, or factors is included in our filings with the U.S. Securities and Exchange Commission. We do not undertake any obligation to update any forward-looking statements as required under the relevant laws. During the call, we will be referring to certain non-GAAP financial measures and supplemental measures to review and assess our operating performance. These non-GAAP financial measures are not intended to be considered in isolation or as a substitute for the financial information prepared and presented in accordance with U.S. GAAP. For information about these non-GAAP measures and reconciliations to GAAP measures, please refer to our earnings press release. I will now pass it on to Ning for opening remarks.

Ning Tang, Founder, Chairman and CEO

Thank you all for joining our earnings conference call today. Despite the evolving market environment, we are pleased to report another solid quarter with strong unit economics, reflecting the resilience of our business structure and operational strategies as well as our commitment to quality growth over mere expansion. Additionally, our strategic investments in AI and the seamless integration of technological innovation into our operations have fostered due growth in both technological advancements and operational efficiency. Our strategic direction positions us well to evolve into a leading AI-driven platform, paving the way for groundbreaking solutions and setting new industry standards. Now I would like to go through our business highlights for this quarter. First, our financial services business. The second quarter of 2024 saw steady growth with total loan volume reaching RMB12.9 billion, marking a 59% increase year-over-year and maintaining resilient consecutive quarterly growth despite an industry slowdown. The momentum is largely driven by the concrete growth of our new customers with higher credit quality as we continue to optimize our asset quality of loan portfolios. Since the second half of 2023, when the entire industry experienced substantial credit risk fluctuations, we started to proactively upgrade our customer mix and diversify our online acquisition channels. The strategy has proven effective, leading to secure growth and improved asset quality. Meanwhile, we have refined our proprietary RTA credit model for borrower acquisition, which has notably enhanced our overall credit approval efficiency. In this quarter, the number of borrowers served increased by 47% year-over-year to RMB1.5 million. Moreover, our loan facilitation platform continued to gain popularity with monthly active users rising by 88% year-over-year to RMB4.5 million in the second quarter of this year, showcasing strong customer engagement and loyalty. As we maintain our focus on attracting high-quality borrowers and note that existing high-value borrowers repeatedly use our revolving loan products, we expect this growth momentum to continue throughout the year. Meanwhile, our international business is showing exciting progress. The total loan volume overseas nearly doubled in the second quarter of 2024 compared to the prior quarter. In the Philippines, monthly loan volume facilitated exceeded the RMB20 million milestone with the growth rate remaining robust as we move into the second half of the year. Moreover, as our business continues to grow, we are benefiting from economies of scale, with customer acquisition costs decreasing by 18% quarter-over-quarter. In June 2024, our business in the Philippines achieved a positive net profit margin. It's worth mentioning that our rapid growth is closely tied to our AI development and integration. Our proprietary large language models have been implemented across various operations, including customer acquisition, customer service, risk management and asset management. For instance, in our international operations, our anti-fraud AI models have processed over 10 different types of identification documents this quarter, achieving a 93% accuracy rate and significantly enhancing our risk management efficiency. Additionally, to standardize our services, our large language models are used in our overseas call centers to translate local languages, detect sensitive work and analyze service quality and assurance, thereby boosting customer satisfaction. As more data are processed, we expect continued enhancement of our models in both accuracy and their applicability to a wider range of scenarios and uses. Turning into asset quality. Delinquency rates continue to show an encouraging trend as assets from upgraded borrowers increase. Specifically, the 15-day to 89-day delinquency rate for the second quarter of 2024 declined to 3.8%, down 10 basis points. The FPD 30-plus delinquency rate decreased for the third consecutive quarter, and the M1 collection rate for the second quarter of 2024 increased by 290 basis points quarter-over-quarter to a historic high. We expect a sustained improvement in asset risk performance in the second half of this year as we continue to optimize our customer mix and retune our credit risk models. Now on funding costs. Our efforts in building an efficient funding management system is showing results. In the second quarter of this year, our funding costs decreased by 82 basis points quarter-over-quarter, reaching a historic low and exceeding our internal targets. The downward trend will continue in the third quarter. Moreover, given the current market funding conditions, we are strategically increasing our loan volume under the risk-taking model to better balance risk management and profitability. Regarding our insurance brokerage business, we have focused more on property insurance and expanded our customer acquisition channels to hedge against the ever-changing regulatory environment and uncertainties in the life insurance sector. In the second quarter, gross written premiums totaled RMB1.1 billion, reflecting a year-over-year decrease of 20% and a quarter-over-quarter increase of 16%. The annual decline was primarily due to the impacted life insurance business, which experienced limited sales of first year premiums as a result of product changes and the new regulations. The quarter-over-quarter growth in premiums is largely attributable to the property insurance business, where premiums reached RMB557 million, marking a 19% increase from the previous quarter and setting a new record. Going forward, we will continue to focus on three key areas in our insurance business. First, strengthening channel partnerships and expanding the scale of property insurance, optimizing our product mix and continuously increasing the proportion of higher profitability products such as liability insurance. Second, in life insurance, we will focus more on high-net-worth clients, addressing their comprehensive protection needs for retirement and savings. Thirdly, we will enhance online customer acquisition by utilizing AIGC tools to improve market outreach and boost sales volume. In our consumption and lifestyle service segment, our GMV increased by 40% year-over-year to RMB554.6 million. However, due to the high penetration rate of these services among our current customer base, we are observing a moderation in growth rates. Moving forward, the company will focus on acquiring new customers and refining customer profiles to better understand and address their comprehensive needs. Moreover, with the aim to enhance shareholder returns and boost market confidence, we are pleased to announce that the Board has approved a new dividend policy. Under this policy, the Board plans to declare dividends amounting to no less than 10% of the company's anticipated net income after tax for each half-year starting from the first half of this year. The cash dividend for the first half of 2024, set at USD0.2 per American depository share, is expected to be paid on or about October 15, 2024, to holders of the company's ordinary shares and ADSs of record as of the close of business on September 30, 2024, Hong Kong Time and New York Time, respectively. We would like to express our gratitude to our shareholders and investors for their ongoing support. Finally, we have a management change to announce. First, let me introduce our newly appointed CFO, Mr. Yuning Feng. Yuning possesses over a decade of experience in venture capital investment, investment banking and financial control. Before joining us, he was a partner at CE Innovation Capital, where he led investments in fintech, enterprise solutions and AI sectors. Prior to that, Yuning also served as an investment banker at China Renaissance and as a financial controller at Goldman Sachs and UBS. We are confident that Yuning's extensive experience and proven track record will enhance our global strategy and AI focus, and we look forward to the positive impact this will bring. Also, on behalf of the Board, I would like to extend our deep gratitude to Na for her significant contributions and outstanding work during the past years. With that, I will pass it to Na, who will go through the financial performance for this quarter. As this marks her final earnings call with us, we once again thank her for her leadership and wish her continued success.

Na Mei, CFO

Thank you, Ning, for all the kind words and support. Hello, everyone. On this call, I will only focus on our key financial highlights. Yuning will join us for the Q&A section after the prepared remarks. First of all, we are glad to deliver a solid quarter with wholesale profitability. In the second quarter of this year, our total revenue reached RMB1.5 billion, a 30% increase year-over-year. In the Financial Service segment, total loan facility continued to grow slightly, reaching RMB12.9 billion, up 59% year-over-year. This growing demand is driven by the number of our new customers and the strong demand for our small working loan products. Revenue from the financial service business increased 14% year-over-year to RMB851 million. The momentum remained strong throughout the year. In the insurance sector, our gross written premium was RMB1.1 billion, a decrease of 20% year-over-year but an increase of 15% compared with the prior quarter. The year-on-year decline was driven by a substantial drop in our life insurance sales following local revenue changes. During the same period last year, sales of life insurance products with a 3.5% interest rate burdened before being withdrawn from the China market due to the new regulation. Therefore, the premium in the second quarter of last year was exceptionally high, leading to a sharp contraction in the decline of the second quarter this year. Meanwhile, the causative growth in our total premium was mainly driven by the expansion of our property insurance business. Consequently, the property insurance in our overall primary mix increased, translating into a lower average revenue take rate due to the lower commission fee associated with life insurance products. In the second quarter of this year, revenue for our insurance segment reached RMB91.5 million, down 77% year-over-year. Going forward, we expect continued growth in our property insurance business in the foreseeable future and gradually to cover our life insurance products along with market trends. In the consumption and lifestyle segment, the total GMV for this quarter reached RMB555 million, an increase of 40% year-over-year but a decline of 11% quarter-over-quarter. As mentioned by Ning, as the penetration rate of service and products in this segment grows to a substantial level, the past growth rate of this segment will continue to moderate. On the expense side, sales and marketing expense increased 21% year-over-year to RMB285 million. This growth was mainly fueled by the swift expansion of our financial service segment and enhanced marketing efforts focused on attracting new and high-quality customers as we continue to redefine our customer base. Research and development expense increased by 69% year-over-year to RMB56 million due to our ongoing investment in AI enhancements and technology advancements. Administrative and service costs decreased by 29% year-over-year to RMB247 million. This is primarily attributed to the decline in the insurance business volume, especially the sharp decrease in the first premium for our life insurance products, which led to a low channel base and relevant settlement counts. Our G&A cost increased 8% year-over-year to RMB138.7 million, remaining largely stable. The launch of control assets and receivables reached RMB123 million for this quarter, marking a 152% year-over-year increase and 20% quarterly growth. The increase was mainly driven by the growth in total loan volume. Moreover, provision for contingent liability this quarter increased to RMB278.9 million from RMB12 million in the same period of last year. This is due to our rapid write-off in loan volume facilitated by our risk-taking model, which led to a significant upfront provision under current accounting policy. However, over time, this provision will appear to be transferred to our guaranteed service side. Actually, in the second quarter of this year, the revenue from the guaranteed service reached RMB78.9 million, more than 4x upside from the same period last year. Now on the bottom line, our net income decreased 22% year-over-year to RMB410 million this quarter due to three reasons. Firstly, our profitability in the insurance business declined as mentioned above. Secondly, marketing expenses increased due to our ongoing investment in targeting new high-quality borrowers for our financial service business. Thirdly, substantial upfront provision has been accrued as we ramp up our loan volume under the risk-taking model. Currently, our profit margin reached 27.4%, still at a high level in the industry. Regarding cash flow, we generated RMB369 million net cash from our operations in this quarter, remaining healthy and strong. On the balance sheet side, our balance sheet remains strong with RMB5.5 billion in cash and cash equivalents as of the end of this quarter, and we continue to enhance our shareholder returns. As Ning just introduced, we are pleased to announce the same dividend plan with no less than 10% of our after-tax income for the prior 6 months to be distributed to our shareholders. The dividend of USD0.2 per American Depository Share is intended to be paid on or about October 5, 2024, for holders of the company's ordinary shares and ADSs of record as of the close of business on September 30, 2024. Moreover, we are still active in share buybacks. In the second quarter of this year, we allocated USD4 million to purchase shares in the open market, bringing our total deployment for the share repurchase program to USD13.5 million by June 13, 2024. Lastly, our business outlook, based on our assessment of the current business and market conditions, we expect our revenue for the third quarter of 2024 to stand between RMB1.4 billion to RMB1.5 billion, with a healthy net profit margin. This represents our current and preliminary assessment, which may be subject to change and uncertainties. This concludes our remarks. Operator, now we are open for questions. Thank you.

Operator, Operator

We will now begin the question-and-answer session. The first question comes from Ethan Yu with First Trust Group Inc. Please go ahead.

Unidentified Analyst, Analyst

Hi, good evening. Thanks for taking my questions. Congrats on a really solid quarter. My first question is about your AI development. As disclosed in your ESG report, the company has developed a range of AI systems. Regarding your AI strategy, have there been any notable advancements in AI applications or research? Can you share more details about any specific investments in the AI sector? And also, have there been any significant risks in our AI product commercialization?

Operator, Operator

Excuse me, Ethan, I'm sorry, you're not coming through clearly. Is it possible to move the microphone closer to you and repeat, please?

Ning Tang, Founder, Chairman and CEO

I got the majority of the question and it's about the AI development, investment, commercialization, right? Yes?

Operator, Operator

Okay. He accidentally disconnected. Just a moment, Walt, he must have pressed something accidentally. So, would you like to go to the next question or would you like me to have the next questioner ask and then when... The next question is from Bruce Oren with Black Lab Fund. Please go ahead.

Bruce Oren, Analyst

Yes. Hello. I'd like to express appreciation to the Board for the new dividend. I mean that's a good move. I'd also like to congratulate and thank Ms. Na Mei for helping to build an extraordinary company under circumstances that were often difficult. Thank you. I have two questions. The first is, could you add some insight into the large second quarter increase in net cash used in investing activities and net cash used in financing activities? And my second question is, where is most of the international business growth? Thank you.

Ning Tang, Founder, Chairman and CEO

Na, please cover them first.

Na Mei, CFO

Yes. As per my script for cash flow for our operational business, as we mentioned for our financial service segment, the management is focusing on financial leasing opportunities...

Bruce Oren, Analyst

I cannot hear you very clear now.

Na Mei, CFO

Now it's better? I'm close to the phone now.

Bruce Oren, Analyst

It's better now.

Ning Tang, Founder, Chairman and CEO

Items and also our international business market.

Na Mei, CFO

Yes, I'm explaining our investment cash flow. The reason why we increased so much in the first quarter. As you may remember, last year, we purchased a new financial guarantee company, Chongqing Jintong, for our financial service segment. For this year, the management is still looking to acquire financial licenses to purchase other financial service businesses like AMC Assets Company and micro-small lending companies and other financial guarantee companies for this purpose. So, for these financial license companies, before they come to formal operations, and the repurchase process based on the communication status, we need to allocate some investment funds to our partners to lock the acquisition target. So, you can see our investment cash flow remains... most of our investment payments will be allocated to our potential financial lease targets. I hope my answer has addressed your question.

Bruce Oren, Analyst

Yes. Do you see the cash used plateauing or continuing to grow greatly?

Na Mei, CFO

Yes, I think you can see that for the cash from the operations remains healthy and stable cash flow. And also, we have used the cash for other investment opportunities, whether related to internal financial licenses or the development of our international business, along with our AI strategy. We also have many cash implementations. But in our forecast, we still have confidence in our cash and cash equivalents balance with a strong status in the next quarter, yes.

Ning Tang, Founder, Chairman and CEO

Our international business covers the Philippines and Mexico. We're also looking to expand to certain other markets in Southeast Asia and other parts of the world.

Operator, Operator

Our international business covers the Philippines and Mexico. We're also looking to expand to certain other markets in Southeast Asia and other parts of the world.

Ning Tang, Founder, Chairman and CEO

Is the first gentleman back?

Operator, Operator

Yes, we have him now.

Ning Tang, Founder, Chairman and CEO

We cover, yes, the AI investment implementation part, yes?

Unidentified Analyst, Analyst

Yes, Ethan again. Can you tell me now?

Ning Tang, Founder, Chairman and CEO

Yes, I can hear you very clearly. And actually, as I reported at the beginning, we use AI extensively in our operations. We also try and leverage the technology capabilities developed internally for potential external opportunities. We have fintech partners and financial institutions interested in our solutions. I hope we'll see some results later this year or in the first half of next year. At the same time, we are trying to build a strategic investment and partnership infrastructure like an ecosystem. We've made a couple of small, but in my view, hopefully very promising investments in the AI space, but their contributions are very tiny. Going back to our internal AI use cases, for example, we use AI in customer acquisition, customer service. We utilize robots and large language models for incoming and outgoing calls. For instance, when we detect a customer's emotional change, it's time to switch to a human operator, and we will do that. The machine can interact with a customer up to the right point to switch to a human agent. We also use voice recognition technology. Our large language models are employed in the Philippines and can utilize great visual recognition algorithms because in the Philippines, personal identification paperwork is very analog and takes skill to detect the risk. So, AI plays a key role there and so on. Basically, we use AI extensively in our operations, and some technologies are welcomed by outside partners and prospects. Therefore, we will try to monetize these technologies as well.

Unidentified Analyst, Analyst

Okay. My second question is there is a continued rise in your R&D costs. Could you share more details on how these costs have been utilized?

Ning Tang, Founder, Chairman and CEO

Yes. For our AI large language model development, we take an open source model and combine it with our own data and business algorithm to develop our proprietary models as well as hardware and software development. In the second quarter, I believe it was about RMB56 million. I think this is money well spent, and our investment in AI has been prudent but strategic for the future.

Unidentified Analyst, Analyst

Can I ask one more question about your overseas business?

Ning Tang, Founder, Chairman and CEO

Sure.

Unidentified Analyst, Analyst

Yes. Can I know what is the total loan volume facilitated overseas in the second quarter of 2024? I'm impressed with the growth rate achieved in the Philippines. Also, you mentioned that you've made another progress in Mexico. What is driving growth in the Philippines?

Ning Tang, Founder, Chairman and CEO

Say it again, sorry, the last part...

Unidentified Analyst, Analyst

Yes, what is driving this growth? And what is your outlook for the revenue generated from overseas business and profit in the second half of 2024 or the coming 2025?

Ning Tang, Founder, Chairman and CEO

I see. Well, yes, the growth rate has been phenomenal largely because the base is too small. We really hope to grow the base. In the second quarter, loan volume was RMB63 million and we expect to exceed RMB100 million in this quarter. We hope to maintain a relatively high growth rate for the foreseeable future just because the base is still small. And regarding the growth driver, the Philippines and other countries in Southeast Asia and some parts of Latin America are large countries, with a population of over 100 million. The target customer base is very young, which we like. They have strong demand for convenient credit, but the market lacks such opportunities. We aim to leverage the capabilities we've developed in Mainland China, and this represents a big opportunity for us to expand credit availability outside of Mainland China in these large, youthful markets where digital finance is still in its early stages but booming.

Unidentified Analyst, Analyst

Yes. Okay. Understood. May I know the current customer acquisition cost for these countries, especially in the Philippines?

Ning Tang, Founder, Chairman and CEO

Na, do you have this number?

Na Mei, CFO

Yes. For our business in the Philippines, the acquisition cost based on our new customer acquisition strategy is about 1%, which translates to around $5 or $10 per person. However, I believe in the second half of this year, as Ning mentioned, we hope to see growth in our Philippines business and other wholesale businesses. So, we expect the acquisition rate to increase in the third and fourth quarters, but for this quarter, it is about $5 to $10 per person.

Operator, Operator

The next question comes from Dylan Paul, please go ahead.

Unidentified Analyst, Analyst

Yes. Can you hear me? I'm going to switch off the speaker as you recommended. Thank you so much. This is Dylan Paul here, private investor. Myself and my friend, Dale Tiongson, very sorry, he can't be here, have been following and invested in the company for a couple of quarters now along, and we want to thank you all for the strong result. We also want to hear from any participants listening to the call who are interested in sharing bidirectional insights, so please reach out to us via e-mail or social media. We have two questions. The first is related to the guarantee business. It seems like this is becoming a growing part of the business, and we are interested in some additional color. Maybe you could speak towards how the guarantee contracts work in terms of sharing of credit risk and what that means for a return relative to the default rate on the underlying loans? We also understand the accounting to be atypical for provisions. Could you maybe explain just how the accounting works or provide additional color? Would it be helpful to show progression of loss provisions to write-offs in the quarter similar to how you do for contract receivables in the 10-K? And then the final component, which again, maybe I should be separating and well, actually, let me stop right there. It sounds like, sorry, this is my first time doing a call before. It sounds like I can come back and ask that second question. I won't have any follow-up on the first because I won't be able to adequately process your answers.

Ning Tang, Founder, Chairman and CEO

We'll try to cover that. Maybe I can suggest that we can have a follow-on call to go into more details with your friend.

Unidentified Analyst, Analyst

All right. That's fine. And then let me see whether you have the same recommendation for the second question, which is related to the parent controlling shareholder structure. We find this aspect quite confusing. I know we have asked about it before. Just wondering if you could provide any further details regarding CreditEase and how the relationship works with Yiren. As you mentioned before, there was a large transaction in 2019, and this may be the new part that can be addressed. Are you expecting any related party transactions coming up here, if you're able to speak to that? Thank you.

Ning Tang, Founder, Chairman and CEO

Not as substantial as the one you mentioned several years ago, not even close.

Unidentified Analyst, Analyst

Okay. All right. That's all of our questions, or Dale's more specifically. Most importantly, thank you for that tour that you guys gave me while I was in China and for answering my questions. We are currently very bullish and excited about everything you guys have accomplished so far.

Ning Tang, Founder, Chairman and CEO

You are more than welcome to come back and see us. Yes, we'll book a follow-up call to cover all the details.

Na Mei, CFO

Okay. Thank you for listening to our company, and I hope you will come in again later.

Operator, Operator

And this concludes our question-and-answer session and the Yiren Digital conference call. If you have any further questions, please contact the Investor Relations team at Yiren Digital. Thank you for attending today's presentation. You may now disconnect.