LexinFintech Holdings Ltd. (LX) Q3 2021 Earnings Report, Transcript and Summary

Thank you for standing by, and welcome to the LexinFintech Third Quarter 2021 Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speakers presentation, there will be a question-and-answer session. [Operator Instructions]. Please be advised that today's conference is being recorded. [Operator Instructions]. I'd now like to hand the conference over to your host today, Ms. Patricia Cheng, Head of Capital Markets. Thank you. Please go ahead.

Hello, everyone. Welcome to Lexin's Q3 earnings update. I'm joined today Jay Xiao, Chairman and CEO; Sunny Sun, CFO; Jayden Qiao, CRO; and Erwin Lu, CTO. During the call we will discuss business outlook. Any forward-looking statements that we make are based on assumptions as of today. The actual results may differ materially and we undertake no obligation to update any forward-looking statements. Finally, unless otherwise stated, all numbers mentioned are in RMB. I will now turn the call over to Sunny to go through the financial performance. Sunny over to you.

Thank you, Patricia. Good morning, everyone. It's my pleasure to speak to you and give you an update on our third quarter results. This quarter marks the execution of structural change of our core businesses. And I'm delighted to say the progress has been encouraging. Loan origination rose 15.6% year-on-year RMB 255.9 billion of which 42.9% was priced within 24% up from 37.6% in the second quarter. If we look at the last month of Q3, the improvement was even bigger. About half was priced within 24% in September. Average APR for the September intake was 26.8% down 1.4 percentage point from June. In line with regulatory direction as we adjust down loan pricing and move away from high APR borrowers. There will be measured slowdown in top-line metrics. Total operating revenue reached RMB 2.97 billion in the third quarter, down by 5.9% from last year and within management expectations. As our CEO Jay slack in the earnings call of last quarter we placed quality overscale. Gross margins posted 54% increase to RMB 1.5 billion, as a percentage of revenue, gross margin advanced by almost 20 percentage points year-over-year and held steady quarter-on-quarter at about 51%. Moving on to expenses. We have stepped up the overall spending to support new growth initiatives such as the further build out of my [0:03:36] team and [0:03:37] as well as the technology upgrade that Erwin our Chief Technology Officer is spearheading. At the same time, we have also been streamlining operations and keep a diligent eye on general expenditure. G&A stays on the down trend going down by 2% year-over-year and 17% quarter-on-quarter. Net profit rose over 68% year-on-year to RMB 551 million in the third quarter. In addition take rate stayed stable at 3.5% quarter-over-quarter. Top-line optimization, cost management and operational efficiency are critical to profitability and will remain at our priority. There have been constant noises about the sector this year. We understand investors' concern. The third quarter results are proof that we are actively responding to change. And we are determined to enhance the resilience of our businesses. Next, I would like to turn the call over to Jayden our Chief Risk Officer to discuss credit performance. Over to you.

Thank you, Sunny. We have been proactive in mitigating the pressure of asset quality coming from the change in policy and macro environment. The 90 day plus delinquency ratio finished the quarter at 1.85%, unchanged from the end of Q2. In response to 24% policy, we have tightened the underwriting criteria and approval rate. The sequential drop in the number of active users and loan origination volume reflects our proactive management of high risk borrowers. In the transition, we do expect some volatility in short-term risk with the industry moving to reduce funding price at about 24%. The dropping liquidity will weigh on repayment ability of some borrowers. In anticipation of the interruption, we have strengthened the risk management framework for new businesses, the risk strategies and models to make sure there's strict control over loan origination, especially when early stage performance is not yet stable. Risk management build on identifying, assessing and monitoring risk, we will keep refining the process and it will not compromise quality over volume. Finally, I would like to highlight another recent change. That is engagement with the technology team. Our activities generate a vast amount of data from internal interactions to external relations. This wealth of knowledge is being turned into powerful analytics and predictive modeling. We have been working more closely with the technology team to better manage risk at both the business level and the operational level. I will pass it to Erwin, who will talk more about this topic.

Thank you, Jayden. I took up the CTO role in February this year. This was a newly created position. And my mandate is to sharpen our in house technology capability. By leveraging my international experience, including over a decade in the U.S. where I developed my career in software engineering at Microsoft and Facebook. Optimization and innovation is our goal. And people are the most valuable assets. The vast majority of the R&D spending is talents related investments. We're taking new talents to improve the existing infrastructure and address new opportunities. At the backend that we have built up a core engineering team dedicated to machine learning and data processing and customer acquisition as a bank matching as well as risk management models, we've also been applying more AI and machine learning algorithms. In the middle tier, we have embarked on a rearchitecturing of the platform into a kernel plugin structure to provide more flexibility and robustness in serving our technical development. As a result, the average engineering delivery cycle has been reduced by more than 30%. The new architecture has also improved extensibility to enable new features for future business requirements. On the business front, we have updated our apps to make sure we meet the latest regulations and fit the requirements without losing any of the existing user friendliness. To cope with the new privacy protection, we have strengthened the web security, encrypted storage of personal identifiable information data as well as restrictions in data usage. In short, we are pleased to see that technology is playing a bigger role in helping us manage the cost of compliance and revenue. The upgrade has just begun. I look forward to sharing more with you later.

Thank you, Erwin. Last but not the least few words from Jay.

[Foreign Language] It's a pleasure to talk to you all again. My colleagues have walked through the highlights of the quarter. I would like to take this opportunity to share with you about what we have been doing and we'll be doing. For the core Fintech business, we have been responding to recent regulatory developments by rebalancing the business structure, reducing risk and improving efficiency. And our efforts are paying off. [Foreign Language] As Sunny mentioned just now, we were able to increase the exposure of loan price within 24% while keeping the scale steady. The mix went up to about half of the total in September and the uptrend continues. Our 90-day delinquency ratio was unchanged at 1.85%. Alongside the realignment of business mix, we've also improved operational efficiency. G&A expenses fell by 17% quarter-on-quarter to RMB 100 million, setting a new low as a percentage of revenue and loan balance. More importantly, take rate has not been compromised during the process. This demonstrates the effectiveness of our response. We're confident that once the transaction is completed next year, the sustainability and profitability of the business will be stronger. [Foreign Language] In Maiya, we have further enhancing the product and service model is gaining more recognition from offline merchants. GMV reached RMB 473 million in the third quarter, of which the offline contribution almost doubled Q1, Q2 RMB 185 million. China is the world's largest consumer market. Even though Maiya is still in early part of stage. The impact of brands-to-brands and merchants is undisputable and growth potential immense. The buy now pay later model is different in China. Maiya will shape its own local identity and unique value, bringing tangible transaction gain to merchants and benefits to consumers. [Foreign Language] Also worth noting is a support to small and micro business owners. We are fully aligned with policy direction and increased your loan origination to this group by 32% Q1, Q2 RMB 5.2 billion. [Foreign Language] Finally, I would like to reiterate that quality growth has always been a top priority at Lexin. We are committed to optimizing the asset structure, enhancing credit quality and operational efficiency and keeping our four-year target unchanged. We will also continue to grow and develop new products such as Maiya and bank technology service, in order to strengthen our competitiveness and profitability in the long run. Thank you for your attention and support. Operator, we will now open up the floor for questions. Can you please repeat the instructions again?

[Operator Instructions] First question comes from the line of [indiscernible] of Nomura. Please go ahead.

Hi, management team. Thank you for giving me this question for -- giving me this opportunity to raise a question. And congratulations on the strong results. I have a specific question for our new CFO, Sunny. I was wondering if you would be able to give us more guidance on the loan origination amount and the outlook for fourth quarter this year? Thank you.

I didn't get the name.

Ivy.

Ivy. Hi, good morning, Ivy. Thank you very much for your question. For the outlook, as you just said, and as we reported we had a very strong performance on the third quarter. And based on the information at hand, currently, we will maintain our full-year guidance on the loan originations. And we do expect maybe some temporary volatilities on the operation metrics, as all the players along the value chain will take a bit of time to adjust to the 24 new policy. And for the fourth quarter, as we emphasize, will continue to place healthy growth over pure scale. And we're also expecting that new growth areas will make higher contributions perhaps in the long run. So overall, we will maintain our outlook for the full-year. And also we will focus on structural changes, as we just mentioned, and also on operational efficiency.

Yes, thank you. Thanks for the guidance.

Thank you for the question. Do you have any follow-up?

No, that's it from my side. Thank you.

Next question comes from the line of Alex Ye of UBS. Please go ahead.

Hi, good morning. Thanks for taking my question. I have two questions. Firstly, so you have mentioned that your current pricing mix is about 50% under 24% not by interest rate. I'm just wondering, when do you expect our pricing transition to finish and fully comply? And also related to that and when do you expect -- you could probably you're more comfortable to resume growth after that adjustment? And second question is on your asset quality. So I have seen your early indicators to FPD ratio bidding up a little bit in Q3. So just wondering if you could give us some color on the recent and also give us some forward-looking outlook? Thank you.

[Foreign Language] Alex we'll get Jay to take your first question and then Jayden will take your second question.

[Foreign Language] As I mentioned in the past the 24% policy is the window guidance given by a local authorities to some of the financial institutions, asking them to complete by June on next year. But of course not all financial institutions have received such window guidance as to listen ourselves. We do target to finish the transition by June next year and we're going to speed up the process. But of course, since not financial institutions they are told to do so. So next year for the market, there might still be some doing like 24 after the June deadline. [Foreign Language] While we're doing this structure change, the idea is to bring down the risk as well. So as to minimize the impact on take rate. And you can see that from our 3Q results, we've been able to keep take rate steady for the newly acquired borrowers within the 24% the take rate is above 3%. [Foreign Language] That's why we are confident that we will be able to maintain take rate at a healthy level after the transition next year.

Okay, I'll take the next question. As I mentioned in the call earlier, in the transition period, we do expect some volatility in short-term risk, because the industry is moving to reduce something priced at about 24%. So, as you notice, the FPD30 release is picking up, but still maintained under 1%. As we keep focusing on improving our asset quality mix. Going forward, we do expect our long-term risk will continue to be maintained at a relatively stable level. And we have also noticed at that for new acquired customers. The new orders placed with pricing at or below 24%. Actually the FPD7 is well below the general population of the -- our entire portfolio. So that is a good sign, because we are acquiring a high quality customers, as we the percentage is going higher in the next couple of quarters. As Jay mentioned, once by the end of the second quarter next year, we believe our short-term risk will be continued to be maintained at the previous level. Thank you.

Thanks. That's it for me.

Thank you. Next question comes from the line of Ethan Wang of CLSA. Please go ahead.

Thank you, on time management I have two questions. The first one is the requirement by PBOC to disconnect our data feed with funding partners that they back through the licensed credit agencies or [indiscernible] in China's. So just wondering, in our case, do we have a timeline to make the change? And right now, are we working with any one of those licensed credit agencies already? And which one is that and a profit sharing the amount of profit sharing in the future. Because that may affect our take rate a little bit. And maybe more importantly, the details of the base collaboration, because we're the one, an added layer on the Maiya. Does that mean will need to change the way we collect data and the way the process turn and the way to handle those data? So that's the first question. My second question is on some data disclosure. So we do see a lot more disclosure from this quarter. So we really, really appreciate to add that. But seems that there are two things I'm missing, which were reported in the past that one is the sense of profit sharing model. The total loan origination so there's a chart there, but there's no numbers, it's kind of difficult to understand the exact percentage and the second one is the funding costs in the third quarter, yes, thank you.

Yes, thank you, Jayden. [Foreign Language] Even Jayden is going to take your first question. And then Sunny would you take the second one.

Yes, thank you. So I'll take the first question. Due to the new requirement from PBOC, we're actually actively working with the credit bureaus, especially by that, we have actually after a couple of negotiations that we have already a draft plan, a detailed plan to work with and a financial institution, but at this time, I cannot reveal the name of the financial institution. So we expect by the end of this year, we will actually implement the new schedule, according to our plan. Once this worked, we plan to propose this, the plan to PBOC and see if it can be approved by the regulators. So that's our plan. But in the process of this implementation, we do not expect any change to our cost, because this is actually a test pilot program for them and for us too, so we agreed that during this testified pilot progress, we actually will not incur any cost to the data actually transferred, or to add any implementation that we carry through. So that's the current plan. But going forward, once the plan get approved by PBOC, we still expect very minimal change to our cost structure, because [indiscernible] are actually positioned as an infrastructure. So as a credit bureau, or infrastructure institution, they do not actually, they do not aim to make profit because of this change. So I do believe the cost once is it's incurred in the future is actually going to be very minimal to our underwriting process. Thank you.

Thank you, Jayden. For the second question, the first one, I understand is regarding the contribution percentage of profit sharing, the profit sharing business contributed 43.7% of the overall GMV in the third quarter. The second question about the funding cost is that, thanks to the efforts of our sourcing colleagues, the funding cost has remained very stable at 7.4%. Thank you.

Sure, thank you.

Thank you for the questions. Next question comes from the line of Ryan Roberts of Navis Capital. Please go ahead.

Hi, good morning. My question is kind of on Maiya a little bit, I think some of the early numbers on volumes look pretty promising. And I want to just kind of check on the evolution of business model. I believe that is kind of more emergent side. And I was just curious number one could you share some more color on how the development is going and number two on kind of the borrower user side so to speak, if you're seeing any synergy in those users that choose BNPL services and how that might interact with your lending business and your efforts to drive loan growth from higher quality borrowers I believe earlier you said those were typically high quality central customers that use BNPL, I was just kind of curious how that's all shaking up. Thank you.

[Foreign Language] Maiya still in a place at the moment. At the moment, most of our focus is in Shenzhen and Guangdong Province. But we have been exploring some outside studies with shopping mall apartments. And the feedback has been promising so far. And the feedback has been that during festivals such as National Day holiday and Mid-Autumn festival, if we look at for the same merchant for their outlets that work with Avaya versus the output without such cooperation, we see an obvious uplift in the transaction and contribution to them. [Foreign Language] So our Merchant partners, they have a trial period. And we've seen a strong response to conversion after the trial period into paying customer and the fee that we charge is between 3% and 4%. And in terms of asset quality, when we look at FPV 7 very low from offline merchant is in several like basis points and customer profile mostly with strong spending and power. So, at the moment, our focus is on bringing the value to the merchants to making sure that we can help them improve their transaction activities, repeat sales, and then to improve the conversion before scaling out and at this moment, we will also not considering or not be considering bringing the Maiya users into the loan facilitation business because right now, the focus is on improving the emerging value and also making sure that this remains a very important retail consumption to our users before we move into the next space.

Sure, thanks.

Thank you for the questions. Next question comes from the line of Richard Xu of Morgan Stanley. Please go ahead.

[Foreign Language]. Just two questions from me. One is, any plan to reduce long-term interest rates to 20% given there is some rumored guidance in some regions. Secondly is, any detailed cooperation plan with [indiscernible] at the moment. Thanks

[Foreign Language]. On your question about the 20% that one guidance, we have not heard anything from the regulators about that new level. First of all, for CBRC, they have always said this 24% level for commercial banks, even though that has some local window guidance for different financial institutions. But then you have to look at the nature of a business. We do consumer finance, and the 24% level has in line with policy and also global level is not my SME business, which is level. So that's why we did not expect further tightening on this level from regulators. And also last year, you could see that from the Supreme Court decision about that 15.4% on the LPR that level, CBRC is still sticking to our 24%

[Foreign Language]. When we look at our risk management, and also our customer base, we're confident that we can still make a profit when loan pricing goes down to 15%. Let me give you a numbers that to illustrate this. Funding costs at the moment is about 7%. And if loan pricing goes down, that means that our risk preference will also go down. So our risk costs will go down to 3% to 4%. And for our operation expenses, is going to be about 2% to 3%. That's why we're confident that even though we don't believe that the 24% is going to change, but if it goes down, will still be profitable.

Sorry. Go ahead.

I'll briefly talk about the second question. So the project with [indiscernible] have three phases. We're currently in Phase 1. So Phase 1 is to -- actually we've been working very closely with [indiscernible]and financial institution regarding the details of the plan. So right now, we have agreed on the specifics and all the key milestones of the project, and we're going to sign a project contract to get it implemented around the end of this year. So this is Phase 1. Phase 2 is the implementation phase. So we expect the entire project to be completed around the end of this year or early next year in the first quarter. So once the plan is implemented successfully. Phase 3 is to get the whole plan approved by PBOC. So we're going to put together a document and proposed to PBOC and see if this plan can be approved eventually. So that's our current progress. Thank you.

Okay, just one quick follow up. When do you expect the plan to be approved? When do you plan to submit the plan for approval to the PBOC?

Right, we did not have a specific day to submit the plan. But if everything goes smoothly, we expect to get maybe a first round of submission towards the end of this year, or early next year.

Got it. Thank you.

Thank you for the questions.

[Operator Instructions] We got the new questions from the line of Ethan Wang from CLSA. Please go ahead.

[Foreign Language] So my question is the follow up on the decoupling of data feeds from FinTech to banks. So when you collaborate with [indiscernible] credit, can you elaborate in terms of what kind of data you're going to pass through to [indiscernible]? And do you also pass the algorithm to them as well? And what types of products generated from [indiscernible] which can be passed to banks? Yes, give some details? Thank you.

.: So basically, is not just acts like traditional institutions. So what I mean is they due take the active role in this process, we transfer the data required by PBOC to them. They actually take some processing of the data, and they transfer the process data to the financial Institutions. That's the actually how this plan would work eventually. But as you mentioned in the future, according to PBOC, we still need to wait for the instructions eventually, the algorithms might be placed at by hand side. Yes.

Thank you.

Thank you for the questions. [Operator Instructions] At this time there are no more questions from line. I'd like to hand the call back to the management for closing remarks.

Thank you everyone for your time and interest. We will wrap up the call here, and we look forward to speaking with you. Thank you.