CTT – Correios De Portugal, S.A. (CTTPY) CEO Joao Bento on Q2 2022 Results – Earnings Call Transcript

CTT – Correios De Portugal, S.A. (OTCPK:CTTPY) Q2 2022 Earnings Conference Call July 28, 2022 4:00 AM ET

Company Participants

Guy Pacheco – CFO & Executive Director

Joao Bento – CEO & Executive Director

Conference Call Participants

Antonio Seladas – AS Independent Research

Filipe Leite – CaixaBank

Joao Silva – Banco Santander

Marco Limite – Barclays Bank

Operator

Welcome to CTT First Half 2022 Results Call, and thank you for standing by. (Operator Instructions) This call is being recorded. If you have any objections, you may disconnect at this point.

Now I’m going to introduce your speakers for today, Mr. João Bento, our CEO; and Mr. Guy Pacheco, our CFO. You may begin.

Joao Bento

Thank you. Good morning, everyone. Welcome to our the second quarter results presentation, starting with Slide #4, which is in fact the first slide, with the key takeaways from the quarter. We have reached EBIT exactly within the guidance that we provided in the middle of the guidance €12 million for the quarter as announced in the Capital Markets Today. This is a combination of several factors, starting with the behavior of parcels in Portugal. We returned to growth in volumes, although lower average revenue per item penalized revenue growth. Reversely, in Spain, we had growth in revenue driven by improving pricing, which more than compensates a slight volume slow down driven by market dynamics in e-commerce in Spain. But this is also a consequence of a change in commercial model with higher focus on smaller B2C higher-margin clients.

On Mail, the price lever is enhancing sustainability since we are benefiting from historically low volume decline of around 2.5%. That is partly compensating for the continued decrease in the remaining inbound mail. Moving to the bank, while a solid and expanding balance sheet positions the bank for further revenue growth and offers interest rate leverage as we go forward. And we finally reaffirm our 2030 net zero ambition that we have announced at the Capital Markets Day as the main takeaway regarding ESG concerns.

If we move to Slide 5, as we said we can see there’s a significant sequential improvement in the recurring EBIT with the second quarter much closer to last year’s performance than the first one which is a combination, as we’ve seen of the, well, given behaviors, most of — all of them positive in parcels, mail, commercial services and the bank.

And with this we could move to Slide #6 with the additional detail on the behavior of parcels in Portugal. In fact, the main guidelines is that there’s an upturn in volume. We’re — we have in terms of volume behavior we — there is a small decline versus last year, but already clearly above the pandemic levels, which is even more obvious when we look at the — in EBIT where we have already a growth versus the good quarter last year.

Moving to Slide #7. As I’ve said, federal regulation of pricing drives profitability with — well just below 10% declining volumes that have been superseded by the price level. Even with almost 10% decline, revenues grew regarding the same part of last year. And this is even more visible at the level EBITDA level, with significant improvement versus the quarter in ’21, and impressive behavior if we compare to the second quarter of ’20. So all in all, for different reasons, a good quarter for parcels in Spain.

Moving to Slide #8, first about Mail. As I’ve said, there is a significantly low decline in mail. If we exclude inbound, we have addressed mail volumes falling 2.5% in the quarter. If we consider the full addressed mail volumes, 4.1%. And we also see on the left bottom part of the slide that the inbound declining is starting to flatten with the 3.7 — with 3.7 — sorry 2.7 million items versus — for the quarter.

Moving to Slide #9, which is very interesting slide. We try to, well, provide an overview of how Mail is behaving. So the first take is that de minimis is eroding significantly. We hope for the final, for the last quarter, because it is analyzed in this year, as you know, de minimis start exactly in the third quarter last year with an impact of €9 million in the quarter. But then we have a competitive mail which out of very relevant win-backs in some relevant clients, we have observed a very small decline also with a very small price increase because of competencies matters. But then on regulated mail we, on top of this low decline, in fact, 3.8% year-on-year we have been able to benefit from a 6.3% price increase. So all in all, de minimis was the major impact, and that one is gone from now on. Competitive mail has been able to sustain volumes and decline while by sharing the competitive proposals to — and some win-backs. And regulated mail is and will remain contributing positively and actually growing revenues in Mail. And this is even more so with the new formula.

And with that, I’d invite you to change, to move to Slide #10, the new formula that results from the positive outcome of our negotiation with ANACOM and the General Consumer Directorate. As we have communicated yesterday, we have signed yesterday the agreement. The formula is well-known. It provides strong visibility for the ’23-’25 period in terms of pricing. It provides for significant hedge of the most relevant risks and problems that we have in — it had in the past, because evolving decline is going to be measured on a real basis, the same with inflation. And it also — we also account for a way of resolving in a smooth way eventually significant extraordinary conditions with this K factor. So all in all, an excellent formula, very much in line with what we have proposed and therefore this is one of the positive news for the quarter.

And with this, I’d pass the forward to Guy, to guide us through the remainder of the business areas.

Guy Pacheco

Good morning. I’ll start on Page 11 where we can see our Financial Service & Retail with a very positive performance of retail compensating the slowdown that we witnessed on public debt placements. In fact retail products and services is growing 10.4% in the quarter as Financial Services revenue had a small decline of 0.8% with the other products like money orders compensating the evolution of public debt placements that declined 13.8%.

The interest rate increase has been putting out-of-market or with less attractiveness our loan maturity products. But conversely, we have seen with arrivals rising the short-term rather increasing in competitiveness and that gives us comfort, and we’re seeing already in July a positive performance for that because our short-term products. But right now our arrival is 3 months plus 1 percentage point. And that is pretty competitive on the 3-months product right now in Portugal, namely with Portuguese risk and public — Portuguese government risk.

And on second — on Banco CTT on Slide 12, we see the continuation of a very solid volume growth, performance and potential growth in revenues with auto loans increasing 18.5%. The group of credit cards 74.7%, mortgage 11.6%. So strong double digit growth across all the main credit products. Customer resource is also growing significantly, 26.2%. And I would like to highlight that off-balance sheet savings grew 53% and that is key for the commission side, and the increase of monetization of our customers. Our return on tangible equity also improved significantly. This is our annualized numbers which now stands at 4.6% in the past to achieve the double-digit numbers that we shared on the capital markets side.

Next page we can see the progress we are doing on ESG fronts. In the Capital Markets Day, we renewed our ambition and we set the target of 2030 for net zero [indiscernible] levels. We continue to increase the new — the fully green delivery centers. We opened an additional 4. We are increasing the number of kilometers our green fleet is covering. We more than doubled on the [indiscernible]. And our alternative vehicles now accounts for 12.5% of the fleet.

We continue to have these tree initiatives to compensate the carbon footprint with 6,000 trees and our first half. And our ECO reusable package was distinguished in the Sustainability National Award with an honorable mention.

On the social front, we continue to have fundraising campaigns to support Ukrainian people. And we obtain the certification for Responsible Family Entity done by — in partnership with APCER and certified by APCER.

Now moving to the financial review on Page 15. We can see our key financial indicators where we can see a second quarter that was still challenging, but with stabilizing trends and in line with expectations that we disclosed in the Capital Markets Day. CTT with 2% revenue growth. On the back of Banco CTT and Financial Service performance we achieved the flat EBITDA year-on-year [indiscernible] decreasing 12.2% with [indiscernible] many the investments made in capacity [indiscernible].

Our net profit in the quarter going 7.2%, and our cash flow was negative in €2.4 million affected by working capital performance [indiscernible] couple of slides there.

On the next page we see the detailed evolution of our revenues. As mentioned, revenues growing 2% in the first quarter — second half — in the second quarter, sorry, Express and Parcels declining €1.1 million resulting from 5.2% decline in volumes. In Portugal, volumes recovered throughout the quarter and ending up to 1.9% in the second quarter. But lower unit price pressures in revenues increased 2.1% [indiscernible] volume declined 9.9% with lower consumption and supply chain issues [indiscernible] but the higher price for parcels supporting our revenue growth that grew 1.2%.

Mail & Other declining €0.8 million or 0.8%, positively impacted by the consolidation of NewSpring and was in business solutions that contributed positively [indiscernible] still declining €6.8 million, out of which €5.5 million are coming from the de minimis impact [indiscernible].

Financial Services growing 6.3%, maintaining a good performance. And retail sales growing 10.4%. Financial Services declined 0.8 with an increase in interest splits rendering longer maturity [indiscernible]. Banco CTT growing 22% as we continue to expand our net interest margin driven by credit cards and auto loans and commissions [indiscernible] within monetization of the [indiscernible] growth on — off balance sheet changes and we continue to have additional fees in our [indiscernible] and debit cards that are also [indiscernible].

On Page 17 we can see our OpEx that grew 3% in the quarter driven by business solutions and Banco CTT [indiscernible] parcels had a decline of €0.5 million or 0.9% as a result of the reduction in volumes and corresponding variable costs that were partially offset by increase in G&A resulting the investments in capacity efficiency and automation in [indiscernible]. Mail & Other growing €2.3 million with €6.3 million coming from business solutions. That is essentially the consolidation of NewSpring that includes the PPA amortization that we calculated in the quarter [indiscernible] 4 million. Mail & Other declining €4 million is essentially on [indiscernible]. Financial Services, pretty much flat. And Banco CTT with an increase of €4.3 million, €3.6 million coming from cost of risk.

In the second quarter, our cost of risk stood [indiscernible] 1.7%, increasing from 1.2% in the second quarter last year. This increase was mainly driven by impairment model calibration in this quarter, and we are now actively managing our credit risk including improving our collection process to try to counteract the below-average quarter.

In Slide 18 we can see the evolution of our EBIT, recurring EBIT, that’s decline €1.6 million essentially due to the higher G&A and from [indiscernible] and automation despite the revenue decline in Express & Parcels. Our EBIT grew with higher margins but those investments still impacting the Express & Parcels [indiscernible]. Mail & Other, significantly hit by €5.8 million [indiscernible] following the new [indiscernible] regulations that started in July. And we now implement a model that push our margin down. Financial Services, €0.9 million due to margin improvements in Financial Services and positive Retail contribution [indiscernible] €1.4 million after some growth in baking products, although impacted by the higher cost [indiscernible].

In Page 20 we can see our cash flow evolution in the first half of CTT — sorry, Page 19, we can see first half CTT operating cash flows improving €19 million, penalized by working capital evolution. We are pending receivables from Portuguese [indiscernible] subsidy that we do for the flights from the Portuguese islands to the Netherlands. We have some technical issues with the [indiscernible] that are already been partially resolved in July and a temporary increase in collection period from some big clients that negatively impacted our working capital that we are seeing this transitory effect. [indiscernible] so flat year-on-year and net free cash flow of €3.8 million. Our net debt now is €97.2 million, reflecting the dividend payment and the share buyback, plus the [indiscernible] cash flow generation that we have on the quarter. And now I will give you back to João.

Joao Bento

Thank you, Guy. Well, on Page 20, we have new deposit and share buyback. On the Capital Markets Day we have stated a clear dividend policy, but also announced that we would be active on opportunistic acquisition of own shares. And given that we did not exhaust the current program — in fact we would exhaust the current program below the €80 million that we have announced because of the lower price. We thought that we could extend that to the €80 million. But looking at the opportunity of a very low valuation as we see, it was decided by the Board to expand by 20%, given that the program is then exactly [indiscernible] program that we announced yesterday is to expand to another 20% or €3.6 million. And the opportunity [indiscernible] and this is the rationale for what has been announced yesterday.

Moving to Slide 21, our last slide in the presentation. The obvious main statement is that we remain committed to achieving €65 million recurring EBIT guidance that was restated in the Capital Markets Day. This is on top of what should be a very positive second half, much better than last year. And the reason why we remain confident is because we believe we have the right operational levers as you can see on the right-hand side of Page 21. This means that we’ll have a contribution from the price increase in Mail that will not be as eroded as in the past because the minimum impact should be over. So that is the significant — we expect from that a significant contribution.

Then there will be improving growth in parcels across Portugal and Spain, as we have already observed in July with the continued growth in the bank also favored by the impact of higher interest rates. And the final component, very important, high efficiency of operations against increasing volumes, optimization in the corporate center. Regarding costs, which is — from which we hope we expect a significant contribution, we are completing €5 million cost savings in the second half as a result of several initiatives, mostly facilities optimization, paperless policy and revision of software licensing. And with these 3 main contributions [indiscernible] activity in parcel and in the bank and significant efficiency and cost savings we expect to be able to reach €65 million in the second half — sorry, by the end of this year.

And with this, we would be open for the Q&A. Thank you.

Question-and-Answer Session

Operator

[Operator Instructions]. Our next question comes from the line of Filipe.

Filipe Leite

Filipe Leite from CaixaBank. I have 3 questions, if I may. First one is related with net liability of the employee health care and pension plan benefits. That as far as I can see, it dropped by more than €30 million this quarter. And my question is basically, if this is related only with the discount rate used? Or if there are any other reasons for this drop? Second question on quality KPIs. Now that the price formula was approved, when do you expect an agreement on quality KPI for the next — for the coming years? And last one regarding your targets because looking at historical evolution of the second half, typically third quarter represent 1/3 of second half EBIT and fourth quarter 2/3. Do you expect a similar breakdown this year, 1/3, 2/3? Or there are any reasons that can justify a different breakdown than historical one?

Joao Bento

Okay. So thank you, Filipe. I will start with the second question, and then I will hand over to Guy for the first one and final one. Regarding quality KPIs, the matter here is not exactly an agreement as we have in the — regarding price. Just to recall, for price, what the law on new contract establishes is that price from now on is going to be approved by government out of a proposal by CTT based on criteria that should have been agreed between the 3 parties, as we did yesterday.

Hence, the agreement and now with that — with those criteria approved by government — sorry, the [indiscernible] we will have our proposal for concrete prices, and then we will go forward. In quality, what happens is that ANACOM should make a proposal of new quality KPIs based on several principles, the most relevant ones being they have to be in line with the best practices in Europe. And in fact, it refers to the average of similar countries to Portugal. And because we are so — we ranked so badly in terms of the level of demand, any vague application of those principles will improve criteria.

But it’s not a matter of agreement. Now ANACOM should make that proposal and then government will approve them. We hope this to happen throughout this year so that we will be able to [indiscernible] criteria for next year. I also recall that the consequences for the [indiscernible] being achieved from now on with no longer affecting price, but investments, but it will represent investment obligations for CTT. And with this, I will ask Guy to address the first and last question.

Guy Pacheco

Filipe, thank you. Starting with the pension health care liabilities, you’re right, it’s mainly [indiscernible] normally we do this exercise on a yearly basis, but because the materiality of the change on the discount rate has been so significantly, we were forced to revise it on the quarter. The discount rates rose from 1.42% to 294, as the index that we follow for this has increased in the same magnitude. Going to the discussion between the split on the quarter of the second half, you’re right on your analysis. This year we are seeing a more balanced split mainly by 3 factors. The first one is because last year third quarter was with a significant impact of the de minimis where we weren’t able to react in terms of sizing of our operations during that quarter and because we will benefit more from price increase this year. And because a significant part of the savings that we are seeing for the second half will start to flow already on the third quarter. And as such, we have seen a more balanced split between the third and the fourth quarter.

Operator

Our next question comes from the line of Marco.

Marco Limite

Marco Limite from Barclays. I have a couple of questions on your parcel volume growth. So first question is on what do you expect for the full year in terms of parcel volume growth, and specifically for the second half of the year, if you can give us a broad indication And what gives you confidence actually on parcel volume growth recovering, given that clearly macro is deteriorating and online spending is clearly a discretionary spending, so might be affected by macro deterioration. And the second question is on your parcel growth in the second quarter. Clearly in Spain you have highlighted a change in the strategy. And I was just curious if you have an indication of where do you think that both the Portuguese and the Spanish parcel market, by how much has grown in Q2. So especially in Portugal, if you have been growing in line with the market, above or below the market.

Joao Bento

Thank you, Marco. So maybe I’ll start by the current trends and then I’ll move to the longer or to end-of-the-year views. In Portugal, we have been seeing a recovering cost quarter with first half of April still very challenging and then improving sequentially to a level that is already above what we saw in the post lockdown period in Portugal. The data, that is the public available data on the markets or official sources of [indiscernible] stats show the Portuguese e-commerce market is slowing down between 4% and 5%. So in a way we are above the market trend, and we continue to see the same trends in July. So we are seeing a steady robust recovery.

In Spain, we have this very harsh effect from the supply chain in China. We have still a high exposure to Chinese etailers in our customer base in Spain. And as such, the beginning of the quarter in Spain was challenging. That has been recovering and we are able to see with double-digit growth in Spain in July. We — the data that are — that we have available in Spain in [indiscernible] still decline in e-commerce, and we last — yesterday, there was a comment on the Spanish press by the Last Mile Association saying that the market was declining [indiscernible] numbers show a softer decline. So reality should be in the middle. Nevertheless, we are seeing this recovering trends already in July. And as such, we think that the second half growth to be with double-digit growth or that we are currently seeing. I understand your macro concerns, the issue in Portugal and in Spain [indiscernible] there is this looming of macro, but actual numbers are still not showing and we see potential to continue to — for people to shift from brick-and-mortar to digital.

Operator

Our next question comes from the line of Joao.

Joao Silva

I mean, I have a follow-up question, if I if I understood the answer correctly on the quality indicators, the question made by Filipe. And then also I would have a question on the bank and on cost savings. So starting with the first one, just to understand in terms of what you mentioned, what is a similar country to Portugal, I mean, how this is measured or how do you think this is going to be measured? Is it volume — mail volume per capita, what kind of indicators do you think the regulator will look for?

And then also on the time line of this decision by ANACOM, if there’s any specific time line there. And sorry, if you already answered, but I had some issues with the call. And then the second question would be on the cost savings. I mean if I understand that these cost savings are new, the €5 million in the second half. The question here is if this is basically anticipating the cost savings you mentioned at the Capital Markets Day or if it is — or if this is incremental to those cost savings. And if you could detail a bit more of the initiative that you’re anticipating or that you’re doing there?

And then the third question on the bank’s partnership. I mean you mentioned in the Capital Markets Day that you were looking to do a partnership in Banco CTT. The question here is how is this process evolving? And also — and this — I guess it was a question I should have made in the Capital Markets Day, but I would make it now. If this agreement implies a mutual exclusivity with this partner, meaning that you would only be able to sell insurance products from your partner and not from the other companies you currently sell in your network.

Joao Bento

Thank you, Joao. We could hear you very well and loudly now. So for the follow-up on quality, the formulation that was transported to [indiscernible] is vague, which is not necessarily bad for us in what regards the countries with which we compare. It is not so positive by being vague regarding the time line because in fact what is implied and we’ve been trying to [indiscernible] in that way is that this should be — this year of 2022 should be a transition year for every purpose because there was no time for anything related with discussing price rates for this year.

We have included that as part of the negotiation of the contract. That was in fact in the decree law that launched the negotiation process. And for quality, the same should apply, meaning that the existing quality criteria still apply. By the way, we’ve been waived already from them in the first quarter because of the pandemic.

And therefore, our expectation is that the new criteria will be proposed and approved by government this year to start early next year. But we have no, I would say, formal or legal confirmation for that. Regarding the similar countries, this vague thing, always fall to the European Union, of course, because while we have a very thorough benchmark of similar peers both state-owned, publicly listed, all sorts of societal arrangements, but the level of — the number and the level of quality criteria are [indiscernible]. And the benchmark is very favorable, if you want.

And that’s why I said that anything that approaches us from the average of the European Union, for example, would be — would represent a significant improvement in the level of demand. So we are positive on that, not as much as we would be if there was a secured time line for things to unfold. As for the cost and the bank partnership, I will hand again to Guy.

Guy Pacheco

Thank you, João. Good morning, Joao. On the cost, we shared on the Capital Markets Day the amount of savings between €15 million and €20 million and a phase-in, on that phase-in we already were — we already mentioned that we would expect €5 million to €6 million still this year. And then we refer to the cost savings, we are referring to the same €5 million to €6 million that we are on track to achieve.

For this year, the main initiatives are around facilities, namely the most significant one will be moving out of our current headquarters and reducing the space that we occupy. And we have a number of initiatives on energy that is both to have a price reduction vis-a-vis where we are and increasing [indiscernible] going forward. We are namely investing in total production and in reducing the consumption of our footprint. Also, we had quarters reduction out on that front.

And we have a number of quick wins in terms of paper consumption throughout our operations and retail network. And so those are pretty much in line, and those are hopefully the — this year savings. The €20 million that we shared on the Capital Markets Day, it’s a broad list of things. On the bank partnership, we cannot share much more than we already had. What I can say is things are evolving as expected.

And regarding exclusivity, if we enter a distribution agreement for insurance, it’s expected to have exclusivity, although normally exclusivity comes up with a price. And it’s what we are currently negotiating, let’s see how things looks.

Operator

Our next question comes from the line of António.

Antonio Seladas

I have two. First one is related to the bank. So the cost of risk increased by 30 basis points more or less quarter-on-quarter. And the new performance exposure also increased. Nevertheless, we were able to also increase our core equity Tier 1, which is fantastic. So my question is this increase in the cost of risk is related to one-off events? Or it’s something that is changing on the portfolio, loans portfolio that you both 1 year ago from investors. And should we expect 1.3 from now on or you see that would increase because, in fact, the economy is now stable. So unemployment is stable. There is no yet signals or slowdown or recession. So I’m a little bit worried about the increase in the cost of risk at this point in time. So if you can provide more color on this. And second question is related to the price increase [indiscernible] for 2023, if you could — if you would like to share with us what are your view, what is — what will be the policy for price increase in 2023 according to the new formula, of course?

Joao Bento

Thank you, Antonio. On price increase, I think the formula is pretty much straightforward. So your expectation on volume is [indiscernible] 84% less 0.5% for efficiency, so — and inflation expectations. And depends on your view on volume decline and the other variable pretty much straightforward. What I can share, we are not seeing a significant increase on volume declines.

We are seeing on the same range of volume declines that we have seen during the last 2 years, and that’s our expectation for ’23. Regarding the cost of risk, there is still a mechanical effect because we have a loan book that is more skewed to the consumer side of things versus what it was last year, although we have in fact a cost risk increase on the credit card or the partnership [indiscernible] on the auto loan portfolio that we’ve been [indiscernible] a consequence of the model calibration that we’ve done.

And we have an issue to resolve on our collection process on that front that we are actively doing and managing our credit — our credit risk profile. So we see this as a temporary issue. And you’re right, it’s not as an economy reasons because those are [indiscernible]. So we expect until the end of the year to [indiscernible] this issue and get back to our historical cost of risk levels or the guidance that we gave in the Capital Markets Day.

Antonio Seladas

Okay. Just a follow-up question. You’re correct that Q1 increased by 100 basis points despite increasing provisions. So my question is, are we — to keep — are you able to keep growing your loan portfolio? Or do you need to grow less to be able to continue to have a correct Q1, I guess, above 15%, 16%. We did an additional securitization in the beginning of June, and that allow us to have additional room to grow. We see the bank continue to have the opportunity to organically generate capital to [indiscernible] we have — we are comfortable with the current plan, of course, under a macro scenario that we shared on the Capital Markets Day. But right now we are feeling comfortable that we have the enough capital and grow with some meaning. And we are okay with the current capitalization of the bank.

Operator

At this time we don’t have any questions on queue. Speakers, you may proceed.

Joao Bento

Okay. Thank you for coming. We remain available, as always, to interact online and offline. And for those that we are starting holidays, have a nice holiday. Thank you. Good morning.

Operator

And that concludes today’s conference. Thank you all for your participation. You may now disconnect.

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