Lufax Holding (LU) Q1 2023 earnings call transcript

Thank you very much. Hello everyone and welcome to our first quarter 2023 earnings conference call. Our quarterly financial and operations accounts were released by our newswire services earlier today and are currently available online. Today we will hear from our chairman and CEO, Mr. Y. S. Cho, who will provide an update of our latest business strategies, the macroeconomic trends, and the reason Our co-CEO, Mr. Greg T, will then go through our first quarter results and provide more details on our business priorities and the key drivers. Afterward, our CFO, Mr. David Troy, will offer a closer look into our financials before we open up the call for questions. Before we continue, I would like to refer you to our State Harbor statement in our earnings present, which also applies to this call, as we will be making forward-looking statements.

With that, I am now pleased to turn over the call to Mr. YS Cho, Chairman and CEO of Lufax. Please.

Thank you for joining. As you reflect on the first quarter, it is clear that MECO and operating The environment continues to pose challenges for many small business owners. However, we are encouraged by some indications of an economic rebound, giving us cautious optimism in our U-shaped recovery. We remain committed to navigating the challenges that lie ahead and maintain our unwavering focus on building a more resilient business. We will continue to exercise patience, prudence, and preparedness for the anticipated macro-upstream in our SEO segment. Let me provide some updates for the first quarter.

First, there are some signs of a gradual recovery in the macro environment, though they remain The first quarter GDP growth, expanding by 4.5% year-on-year, indicates that the country is on track for its 2023 growth target, or 5%. In addition, China's National Bureau of Statistics stated that the first quarter was a promising start to the macro recovery. However, Chinese industrial profits declined 21% year over year, and we continue to see a divergence in the pace of recovery across industries.

While small business owners are becoming more confident, it may still take some time for macroeconomic tailwinds to flow through to our core SME segments. To give an example of this important sentiment, the Peking University survey results published in February showed that approximately 80% of SBOs are optimistic about their business outlook in 2023. Three, over half of Soviet participants are expecting business volume increases of more than 50% this year. However, it is important to note that STBOs have had less than two months of normal operations in the first quarter after the spike in COVID cases and the Chinese New Year holiday. Thus, it will take time for SBOs to fully resume new business investments, which underpins lending demand.

Now, let me talk about the impact on our business. I would like to start by showing our outlook on the U-shaped recovery. During the first quarter, we observed an improvement in credit rating mix and credit quality for neurons initiated in the last two quarters. 82% of new unsecured loans in the first quarter fell within our top three credit rating categories versus 41% a year ago. Neuron growth is increasingly concentrated in our preferred top third and middle third regions, which we believe will prove to be more resilient as the macro environment improves. Notably, the deterioration in asset quality has slowed down substantially in the first quarter. We have also witnessed early signs of improvements in asset quality in certain economically resilient regions and industries.

We expect that flow rates will continue to improve gradually through the end of this year When operations of SMEs gradually recover, we also expect that credit charge-offs for the risk-bearing loans will likely peak in the second quarter and then gradually decline in the second half of this year. In the second half, we expect total credit costs to remain elevated, but underlying driver will shift from past charge-offs to upfront provisioning, Arising from increasing the portion of loans we provide full guarantees for. This will be supported for net margins in 2024 and beyond. As new growth and the portion guaranteed by us increases progressively over the next several quarters, we anticipate that revenues will decline at a slower pace than they did this quarter.

By year end, we expect the portion of loans that we bear risk as a percentage of entire portfolio to exceed 40%. This ratio stood at 24.5% at the end of the first quarter. Our ability to focus more on new business is made possible by three factors. One, the improving macro environment. Two, ongoing progress in readying funding partners for our deployment of the model where we provide the entire guarantee. And three, the recent completion of our front-fine restructuring, which was difficult but necessary. As a result, the main drivers of our U-shaped recovery are taking shape, but as we have stated previously, we expect a notable recovery in profits underpinned by stabilized ANR to be a 2024 event.

As part of our U-shaped recovery plan, we have implemented several strategic initiatives. We have completed the restructuring of our direct sales force and further optimized our headquarter and front line operating costs. Total expenses including excluding credit impairment losses, finance, and other costs in the first quarter decreased by 21.5% versus a year ago. The total number of direct sales force decreased from 47,000 as of the end of 2022 to around 36,000 as of the end of the first quarter. We managed to retain the most productive members of our direct sales team whose average productivity is more than double that of those who departed. In line with our plan, 80% of new business in the first quarter came from top third and middle third regions versus 70% a year ago.

Now that we have completed our organizational restructuring, we are focused on several priorities. Firstly, we continue to increase the proportion of risk-bearing on neurons we enable, Under which our guarantee subsidiary provides 100% credit enhancement. We are encouraged to see our funding partner support for the model where we provide the entire guarantee. Furthermore, as we deepen our position as an SUV advisor, we will focus on product diversification and cost selling between our retail credit enablement model and our consumer finance business to meet customer needs. This will diversify our lending duration mix, gradually adding shorter duration products to our longer-term duration base.

Finally, we will continue to enhance productivity in our post-loan recovery efforts to claw back proportional past credit losses. These key initiatives are supported by our continued investment in technology. During the first quarter, we deployed new technology to help us gain deeper insights into our small business owners' daily operations. For customer onboarding, we strengthened our capabilities by further embedding facial voice and location verification features. As a result, we further enhanced our ability to assess owners' business status. For the underwriting process we introduced real assessment of customers online marketing activities allowing us to further evaluate their business momentum and repayment capabilities These changes in the credit process are augmenting our historical individual credit assessment so KYT with a deeper insight with owners business and industries KYB Next, let's move on to the capital markets.

We successfully completed our Hong Kong listing by introduction on April 14, marking an important milestone in our corporate development. The listing will increase our exposure to the Hong Kong market and broaden our investor base to continue to create value for our shareholders. Additionally, we are pleased to announce that we paid out the second half of 2022 dividends on an aggregate amount of US dollar $114.6 million in April 2023, demonstrating our commitment to maintain a stable dividend policy.

Finally, as we shared in our last Earning Call, we have substantially completed our regulatory rectification efforts, and the industry is now entering a phase of normalized supervision. We believe this normalized supervisory framework will provide greater stability and predictability for our industry, and we will work closely with regulatory authorities to ensure our compliance with all relevant regulations. I will now turn the call over to Greg for more details on our operating results.

Thanks.

Thank you, Wyeth. I will now provide more details on our first quarter results and our operational focus for this year. Please note all figures are in renminbi unless otherwise stated. In the first quarter of 2023, our top line and bottom line performance were adversely impacted by the challenging macro environment. Our total income was $10.1 billion, representing a decrease of 18.2% compared with the last quarter of 2022. This was mainly driven by the decrease in new loans and the pricing pressure from our credit insurance partners. Despite the challenges on our top line performance, we did turn the corner and achieve profitability this quarter with a net profit of $732 million, primarily due to a decrease in credit impairment losses.

Now, let's dive into the details of our key drivers of the top-line performance. One of the key drivers is our loan volume. In the first quarter of 2023, our new loans enabled were $57 billion, representing a year-over-year decrease of 65%. This was mainly driven by our tightened credit standards on new loans enabled. Executing on our strategic initiative in response to the elevated credit impairment losses in the first quarter, We continue to prioritize higher quality SBO customer segments, concentrated in economically more resilient geographies.

The proportion of new unsecured loans enabled in the R1 to R3 customers, which are our top three rankings in our R1 to R6 scale, increased to 82% in the first quarter from 41% in the same period of last year. Meanwhile, the contribution from customers in the top third and middle third regions continued to increase and reached 80% in the first quarter of 2023. Compared to 70% a year ago. New loans were adversely impacted in the short run by the optimization of our direct sales team, which was difficult but necessary for the long-term development of the company. The optimization was completed in the first quarter, and we managed to retain the more experienced and productive members of our direct sales force.

The average productivity of our retained direct sales employees is more than double that of those who departed. We believe that we are on the right path, and we expect to see the results reflected in the upcoming quarters. Additionally, we've observed that new loan vintages enabled after we tightened our credit standards demonstrate improved asset quality compared with older loan vintages. As we focus on higher quality SPOs, the average ticket size has naturally increased as a result. Average ticket size of unsecured loans for the first quarter of 2023 increased to revenue B 270,000 from 240,000 average for the year of 2022. Two, our consumer finance business saw healthy growth in the first quarter, despite the challenges in our retail enablement model.

The total outstanding balance for consumer finance loans in the first quarter of 2023 was $29.6 billion, up 39% year-over-year, and credit performance was in line with the industry credit performance. Contribution from our consumer finance business grew as a percentage of new loans enabled, and it increased from 11% in the first quarter of 2022 to 24% this quarter, further diversifying our product offerings. Another key driver of our top-line performance is take rate. As mentioned earlier, our take rate remains compressed, which is mainly due to the elevated premiums charged by credit insurance partners. Although our tightened credit standards have improved as the quality of new loans, credit insurance premiums have remained at an elevated level state. We are proactively addressing the take rate pressure by continuing to modify our credit enhancement arrangements.

Under these arrangements, our guaranteed company provides full credit enhancement without the involvement of external credit insurance partners. We are encouraged by the fact that our funding partners are supportive of the shift. As of mid-May, five out of six trust partners and 37 out of 78 bank partners have agreed to extend credit under the model where we provide the entire guarantee.

In addition, 31 of our funding partners are already extending new loans under the model where we provide the entire guarantee. As a result, our credit, our risk-bearing by balance in the first quarter further increased to 24.5% and is expected to exceed 40% by the end of this year. Here, we believe we have adequate capital to support the increase in risk-bearing loans, as the leverage ratio of our guarantee subsidiary was less than two times as of the end of the first quarter, well below the regulatory limit of 10 times. As such, we expect our take rate will gradually improve over the next several quarters as we increase the guarantee portion for new loan business.

Next, let's go to the details of our bottom line drivers. The main driver of recovery in our bottom line was a decrease in credit impairment losses. In the first quarter, credit impairment losses declined by more than 50% to $3.1 billion from $6.7 billion in the fourth quarter of 2022. This was mainly driven by a notable decrease in provisions compared with the previous quarter as we've taken a more conservative view on the outlook for credit quality prior to post-pandemic reopening. As the macro environment gradually normalizes the activities picking up in the first quarter, we partially released a portion of the previously made provisions, which had a positive impact on our P&L. The improvement in our credit impairment losses is also visible in our C to M3 ratios.

The forward indicator on asset quality that we monitor closely. It stood at 1% in the first quarter, remaining unchanged compared with the fourth quarter of 2022. This was primarily attributable to the increase in CDM3 for general unsecured loans from 1.1% in the fourth quarter of 2022 to 1.2% in the first quarter. But this was partially offset by a decrease in flow rate for secured loans from 0.6% to 0.5%. While the asset quality of secured loans is clearly improving, it is worth noting that the deterioration in asset quality of unsecured loans has slowed down substantially in the first quarter, and the delta of CDM3 The last year, the Lufax Holding Ltd earnings conference call. We will continue to monitor closely such indicators in the coming quarters as they are critical to determining the speed of our U-shaped recovery.

Looking ahead for the remainder of 2023, we expect credit impairment losses in each quarter to be on par with those during the first quarter. This is mainly due to our planned expansion of the model, where we provide the entire guarantee during the coming quarters. The extension of such model will increase upfront provision levels, but should result in improved net margins over the medium term. During the first quarter, we continue to make progress in our new SBO ecosystem. As a recap, our new value-added services platform, branded Bu Dien Tung, is an open platform populated with digital operating tools and industry content to support business development for our small business owners. We intend to use this platform to engage potential customers at an earlier stage, deepen our interaction with existing customers, and create both new cross-sell opportunities and a new source of customer referral.

As of March 31st, 2023, we had approximately 1.9 million registered customers on Lufax Holding Ltd, who had submitted their complete business or personal information, an expansion of roughly sevenfold from the end of 2022 through this first quarter. As Wyeth mentioned, in the face of an uneven post-pandemic economic recovery, we are cautiously optimistic in realizing our U-shaped recovery. However, we will remain prudent on absolute levels of new growth until we see definitive improvement in overall lending demand and credit quality. While we expect to see gradual recovery in our core business metrics in the second half of this year, notable bottom line performance improvement is expected to be a 2024 event. I will now turn it over to David, our CFO, for more details on our financial performance.

Thank you, Greg. I will now provide a closer look at our first quarter remarks. It's noted that all numbers are in the early terms and all comparisons are on a year-over-year basis and that's otherwise stated. As Wyatt mentioned before, our performance was impacted by the macro environment and our customer selection. Resulting of 41.8% decrease in our top line total income to 10.1 billion for the first quarter. While the total expenses decreased by 11.8% to 9 billion, as a result our net from U. S. was only 732 million in the first quarter of the world's degree. During this quarter our technology income technical income was 5 billion representing A decrease of 46 of our revenue Our net income system was 3 billion a decrease of 32 and our guaranteed income was 1 billion representing a decrease of 25 As a result, our technology platform-based income services as a percentage of total income declined to 29.7% from 53.7% a year ago.

In addition, due to the increase of income from consumer finance loans, our net interest income as a percentage of total income actually increased to 33.2% from 28.8% a year ago. Furthermore, as we continue to better utilize our guaranteed companies' funded capital to bear more credit for ourselves in fact, or through our T&T insurance partners, we generated more guaranteed income in the chain for being 21% of the total income that compared with 11% a year ago. Our other income, which mainly increased accounts, medical fees, collections, and other variable service fees charged our credit and custody partners as part of the retail credit enablement process, was $227 million in first quarter of 2003, compared to $704 million in the same period of 2022.

The change was mainly changed in a few structure that we talked to our primary credit and husband partner. Turn into our expenses. We continue to improve and manage our operational expenses. Also the expenses, excluding credit and asset investment losses, credit losses, and other losses, The total sales and money expenses were decreased by 21.5% year-over-year to 5.7 billion this quarter, as we currently with our operating efficiency. In the first quarter, our total expense decreased by 11.8% to 9 billion, so 10.2 billion a year ago. This decrease was primarily driven by sales and money expenses. Our total sales and market expenses reach mainly increased expenses for borrowers at investor acquisition points, as well as general sales and market expenses decreased by 32.4% to 3 billion in the first quarter.

This decrease was turned by three factors. First, a decrease in new sales and reductions of commissions. Second, the decrease in investor acquisition and expense expenses and referral expenses from platform services driven by decreased financial volume.

Finally, the decrease in general sales and market expenses was driven by a decrease in new sales. Our general and administrative expenses increased by 4.2% to 756 units in the first quarter, mainly due to the CNA fixed costs, which are last, eight and five, decreased low quality. Our operational and substantive expenses decreased by 2% to 1.6 billion in the first quarter, mainly due to the CNA fixed costs, which are last, eight and five, decreased low quality. Our credit in HMAD losses was 3.1 billion in the first quarter compared with 2.8 billion a year ago, an increase of 10.9%. It was primarily due to the increase in debt losses as a result of the U. S. Senate finance department due to the largely due to the part of the challenging economic environment.

Partly offset by decreasing positions, given by a decrease in loan finance that we bear quite a bit. A finance cost increase by 10.5% to $189 million in the first quarter from the last year of 2022, mainly due to the increase of interest in upfront bank deposits, partly offset by the increase of interest bank, given by increased basis rates. As a result, GAP profit for the first quarter was 732 minutes compared with GAP profit of 5.3 minutes in the third quarter of 2022. Meanwhile, our basic and diluted earnings per ATS during the first quarter broke RMB 2.3 yen for US$2.04 dollars.

On the balance sheet side, our balance sheet remains strong and sorted as a cash advance by the increase as of March 31st, 2015, with a cash balance of 51.3 billion, and compared with 43.9 billion at the end of last year. In addition, liquid after spectra in between 90 days or less, the March of 2014, at the end of March 2023. As of the end of March 2023, our guarantee company's last result is only 1.7 times, while selectively limited to 10 times. The audience provides strong support for the company to make the ceiling in the face of the other one's standards to continue our stable, different care of policy. That concludes our advance for today. Operator, we are now ready to take questions.

Thanks, Alex, for your question. So far, we haven't got any further instructions from regulators about further lowering APR. If you look at the first quarter APR, the blended APR for all neurons in the first quarter is already less than 20%. And then that, if you compare with other peers, we are absolutely and obviously lower than other peers' average APR. We are quite lower. So I believe we are in a good shape in terms of over APR level, and I believe that really well meets regulatory requirements. And now we also have more flexibility than others to adjust APR upwards or downwards whenever necessary. Our overall price is more determined by market demand and supply. And also we consider our operating costs, which includes funding costs and then credit costs, And then our operating costs, which include our sales expense.

So we don't believe, we don't think that the targeted time segments will necessarily further reduce our API. We are already less than, again, less than 20% for all new ones. So I expect, I do not expect noticeable change in terms of API in the future. Thank you very much.

Thanks, Emma. The deterioration in Estet Quartz has slowed down substantially in the first quarter. If you look at C2M3 flow rate for the total loans was 1.0% in the first quarter this year, which remained unchanged from the fourth quarter last year. But if we consider that our balance, loan balance has been declining in recent months, If we analyze this, for example, if we only compare the accounts, whose month on book is less than six months or 12 months, to remove the impact from declining balance on our net flow rate, then now we already see certain improvement trends. I believe we can show, we can demonstrate more obvious improvements from the next quarter onwards. So there we have confidence.

And as the company continues to carry on new trade record plans, now we observe an improvement in credit rating mix and credit credit for new ones initiated in the last two quarters. Yes, you know that we had large amount of charge-off last year, so that is one of our focus this year. We are now sensing a post-recovery accidents to grow back more from the past credit losses. And then answering your question about loan demand. Our loan demand is decided by how our SEO customers see their future economy. And in this regard, we haven't seen any obvious change in a war. But no matter what, if you understand our monthly new sales volume and then our market share, actually, loan demand itself should not be of our concern because we are compared to the market size, our market share is very, very small.

So we don't really worry about loan demand at this moment. And the decrease of new loan growth, recent decrease, was mainly given by our tightened underwriting credit policy and also partly due to our DST reform. That was the reason. Speaking of 100% guarantee model, we are making a great progress. We are very happy. We are encouraged to see that our funding partners did provide good support for the model where we provide the entire guarantee. By now, five out of six trust partners, they agreed, and 37 out of 78 bank partners, they also agreed to extend credit under the model where we provide full guarantee.

In addition, 31 of our funding partners are already providing dispersion loans under this model. So we are making a good progress, and then I think the whole situation can be relatively quick. Thanks.

Thank you, Richard.

It's Greg here. If we look at the funding costs, which are about 6% overall, they have come down about 30 basis points if you look at the first quarter on a year-on-year basis. As we shift to the 100% guarantee model, we're not seeing much change in that funding cost. In fact, probably you're seeing the market more broadly coming down. So any shift to the guarantee model is really not having a net impact in terms of funding cost increase. We think it will be quite stable as we look forward through the remainder of the year. On the take rate, if you kind of go and look at historically, our take rate has been in the sort of 8% to 10% range.

More recently, due to the higher credit guaranteed insurance costs, that take rate is now closer to about 7% to 8% range. As we then move to the 100% guarantee model, right, so if you look out over a year or a year and a half from now, when more of the portfolio will be 100% guaranteed, that credit premium or credit insurance premium that was previously paid to our CGI partners will be earned by us. And that number was historically about 5% to 6%. So if you take a base today of 7% to 8%, which is obviously compressed because of the higher CGIPs, and we move to the guarantee model where that take rate moves over to us, then you should be looking at, on a stabilized basis over the longer term, a take rate of about 14%.

So we think that's where things will end up probably in about a year and a half from now when we've made more of the complete shift. Got it. Thank you.

Thank you.

In terms of the risk-bearing percentage, as of the end of this first quarter, it was at about 24%. We expect by the end of the year on a portfolio basis to be over 40%. And that means as you move through the second half of the year for new loans, a much higher percentage will be under this 100% self-guarantee model. Now, as we go through that process, similar to the question that Richard just asked, that will increase our top-line revenue because you're basically moving what was paid previously to credit guarantee insurance partners onto the balance sheet, and therefore the revenue will come with it. So that will provide a basis for a revenue increase. As we take on more credit risk, we initially have to provision for the new loans.

So that is front loaded in the model. So what you'll see in our overall credit impairment cost, right, we had credit impairment cost in Q1 of $3.1 billion. We expect this number over the next couple quarters to remain stable, but what's driving it, the mix is changing. So $3.1 in the first quarter is mostly from the credit impairment cost from the legacy portfolio, if you will, the existing past book. As we move into the second half of this year, you'll still be at about $3 billion or so credit impairment costs, but more and more of it will be coming from the fact that the new business is done, a higher percentage of new business is done through self-guarantee.

So while that carries a higher upfront cost, if we look forward into 2024, it should also improve our net margin, right? Because you're shifting from a very high credit insurance cost today of over 10%, right, to a model where we think that the new business that we're doing should perform more in line with historical levels. And that should be therefore constructive for our 2024 profitability.

Thank you. Thank you. This concludes today's call. Thank you for joining the conference call. If you If you have more questions, please do not hesitate to contact the complex IRP. Thanks again.

This concludes today's call. Thank you for joining. You may now disconnect your line.