LX 乐信

Operator

Ladies and gentlemen, thank you for standing by, and welcome to the LexinFintech Second Quarter 2019 Earnings Conference Call. [Operator Instructions] I must advise you that this conference is being recorded today. I would like to hand the conference over to your first speaker today, Mr. Tony Hung, Senior Director of Capital Markets. Thank you. And please go ahead.

Tony Hung

Thank you, operator. Hello, everyone, and welcome to Lexin's Second Quarter 2019 Earnings Conference Call. The company's results were issued earlier today and are posted online. Joining me today on the call are Mr. Jay Xiao, our Founder, Chairman and Chief Executive Officer; Mr. Craig Zeng, our Chief Financial Officer; Mr. Ryan Liu, our Chief Risk Officer, [ Mr. Stanley Zhou ], our Senior Financial Director; and other members of our team. For today's agenda, Mr. Xiao will provide an overview of our recent performance and highlights. Mr. Zeng will discuss our financial results, and Mr. Liu will discuss our credit performance. Also, this call includes discussions of certain non-GAAP financial measures. Please refer to our earnings release which contains the reconciliation of non-GAAP measures to the most directly comparable GAAP measures. Finally, please note that unless otherwise stated, all figures mentioned during this conference call are in renminbi. I now turn the call over to our CEO, Mr. Xiao, whom I will translate for.

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] I am pleased to announce to everyone that thanks to our strategic initiatives this year in developing a new consumption platform, increased investment, and customer acquisition and customer optimization, our user growth has been very strong and has once again produced rapid growth in our results. This quarter, our registered users surpassed 50 million, an increase of 71.7% year-on-year. Our new active users also reached 1.3 million compared with 514,000 last year, an increase of 153%. Our revenues reached CNY 2.5 billion, our non-GAAP EBIT reached CNY 776 million and our net income was CNY 628 million. On an adjusted basis, excluding the one-time tax gains last year, growth was 34%, allowing us to achieve our seventh consecutive quarter of double-digit growth.

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] In the year-to-date, with the consumption needs of our high-growth educated young adult customers as our focus, Lexin is strategically focusing on building consumption scenarios finance and customer benefits to establish a more comprehensive ecosystem for our customers. Through the newly developed Le Card benefits platform, Lexin has connected significant number of leading vendors to provide the rapidly -- to better provide the rapidly growing new consumption cohort with a wide range of consumption benefits, creating in the process a super membership system. In addition, we've also enabled our Lehei Card to be able to provide installment purchase services in a wide range of off-line scenarios, resulting in additional consumption scenarios as well as increasing our customer acquisition capabilities.

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] The strong growth in the second quarter proves the substantial potential of our new consumption strategy. We have all the reasons to believe that through Lexin's accumulation of AI, big data, and technological capabilities over the past 6 years, Lexin now has the ability to completely meet and service the consumption needs of hundreds of millions of users and to fully handle the hundreds of billions of transactions that will come with the next phase of our development.

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] In the second quarter, Lexin's financial technology revenues continued to grow rapidly and it's now our primary source of revenues. This is a direct result of our early adoption of AI in every part of our business. Due to use of big data and AI technology, Lexin can improve the efficiency of all aspects of our operations, from product recommendations to risk control, and reduce the risk throughout the system. To date, our complex network, delivery address analysis, LBS data, user behavior patterns, sentiment analysis, and voice analysis systems and multiple machine learning processes have achieved many notable breakthroughs. As a result, in July, we were recognized for our breakthroughs and awarded the Asian Bankers Award for the Best Lending Technology Initiative application or program in China.

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] On the basis of these capabilities, it is perhaps no surprise that Lexin continues to gain the broadest and most diversified level of support from a variety of institutional funding partners. In the second quarter, we signed multiple strategic agreements with ICBC Minsheng and dozens of large banks, insurance companies and consumer finance companies, covering a range of cooperation, including technology, smart sales, payment, risk control, data and many other fields. To date, Lexin's institutional funding partners already number over 100. In the second quarter, close to 80% of new loan originations came from our institutional funding partners.

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] Our accomplishments have filled us with confidence in our company's future. As a result, we have also appropriately raised our full year loan origination guidance, which we now expect to exceed CNY 115 billion, as compared to CNY 66.1 billion last year, representing a growth rate of 74% year-on-year. Recently, China has also taken many policy steps to encourage consumption and recognizing the importance of consumer finance in promoting consumption through new policies. We strongly believe that in this macro environment, Lexin's focus on the high-growth educated young adult cohort will continue to provide us with tremendous room for growth.

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] Next, I would like to invite our CFO, Craig, to discuss our recent financial performance.

Craig Zeng

Thank you, Jay, and hello, everyone. I'm pleased to announce that we have once again delivered strong results. For the first [ hour ], a restatement of our first quarter 2019 results. In connection with the paragraph of the company's unaudited financial information, we identified some errors that overstated revenue for the quarter ended March 31. As a result, we have restated the unaudited financial results for the first quarter. Upon identifying these errors, we undertook a review of our relevant internal control process and started to implement additional measures to address potential control efficiencies. For more details, please refer to our earning press release. Now I'm moving on to our second quarter results. In the interest of time, I will not go over line item by line item of our financials. For a more detailed discussion of our second quarter 2019 results, please also refer to our earning press release. Total operating revenue for the second quarter 2019 reached CNY 2.5 billion, driven by a strong growth in our financial service income. Adjusted net income was RMB 671 million, reflecting our continued strong growth and the performance. It should be noted that, on a year-on-year comparison basis, last year, the second quarter 2018 net income benefited from a one-time tax gain. Net income per ADS for the quarter was RMB 3.46 on a fully diluted basis. Non-GAAP fully diluted net income per ADS was RMB 3.69. Again, it should be noted that the second quarter 2018 benefited from a one-time tax gain. We continue to see the future potential of our business model in the performance of the customer cohort whom we acquired in the first quarter 2015 whose balance is now over RMB 13,700 and whose 30-day delinquency rate is still approximately 1% with a favorable level of quarterly active rate at 37%. Our operating leverage -- operating expenses as a percentage of average loan balance is now 5.5% in the year-to-date. And in the non-advertisement marking -- advertising, G&A and R&D was 2.1%, 1.3%, 1%, and 1.1% of average loan balance, respectively. We currently have 50.2 million registered users and 13.5 million customers with credit line, up from 8.9 million in the June 30, 2018. We acquired nearly 1.3 million new active customers in the second quarter. Overall, our average credit limit was approximately RMB 9,400, while our tenor have increased to 12.8 months. Our weighted average APR was at 25.3%. In term of our funding, for the quarter, approximately 22.1% of our funding for new loan origination came from our Juzi Licai platform and the 77.9% of our funding for new loan originations came from our institutional funding partners. For our guidance, Jay already mentioned. We are pleased to announce that we are raising our guidance. We now expect 2019 loan origination to exceed RMB 115 billion versus RMB 90 billion to RMB 100 billion in our previous guidance. Next, Ryan will discuss our credit situation. Ryan, please?

Ryan Liu

Thank you, Craig. We continued our strong performance in the quarter. Our credit quality continues to be high and we expect our credit statistics and the charge-off ratios remaining around the same levels. Our 90-day supply delinquency ratio remains low at 1.49% and that we continue to see strong credit performance as our lifetime charge-off ratio is just over like 2.5%. We fully expect our strong credit performance to continue for the full year 2019. With that, I conclude our prepared remarks. Operator, please proceed.

Operator

[Operator Instructions] Your first question comes from the line of Eddie Leung from Bank of America Merrill Lynch.

Eddie Leung

[Foreign Language] So I have 2 questions. The first one is regarding the recent newsflow on the regulation of P2P platforms. So wondering if the management team has any preparation. Should there be any change in the regulation environment for P2P platforms, especially regarding potential loss of a licensing opportunity? And then secondly, about your sales and marketing costs. We have seen our first strong user growth along with the higher sales and marketing costs. So just wondering in terms of strategy, was it more just a second quarter one-time promotion? Or is it a strategy that we should be focusing on user growth which also implies potentially a pretty high sales and marketing costs in the near term?

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] So Eddie, on the first question on the P2P, I think Jay first wants to first highlight that, overall, the regulatory environment as a whole is fairly stable, in particular, when it comes to the assisted lending model as well as for consumer finance. Overall, the government, we can see is definitely encouraging consumer finance in particular. It has stepped up the policies to support that. Now on the new P2P rules or other things associated with P2P, we have seen different regulatory authorities in different jurisdictions say slightly different things news-wise, and of course, we have received some of the news as well. Now overall, as a whole, [indiscernible] into it, we've heard some of these things and we're very much prepared as well. And when it comes to the 3 reductions, if you will, that the government would like to do, we're also in the process of executing in reducing the scale and number of users, et cetera. Now it's notable and perhaps most important to highlight that, while this is happening, institutional funding is strong, is very strong. In fact, while you can see from our data that while the P2P [indiscernible] is not only not growing, where it is, in fact, it's flat or it's even down, we're actually still growing, and we're still growing rapidly and we still continue to deliver on the results. And I can say also from the latest numbers in the second quarter, there are days and times where 99% of loan originations is, in fact, coming from institutional funding. So again, that's 99% nearly up is coming from institutional funding. So in the future, if there is, in fact, continued tightening, continued, if you will, restrictions around the P2P, we can see that basically, we'll continue with our growth, whether it's in terms of our loan origination scale, and we'll continue to meet the numbers.

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] So regarding the marketing costs and the strategy overall, I think as everyone can see from the second quarter results, thanks to our work with institutions and cooperation that we have with them, we have the opportunity now to grow at this rate. But as you can see from the growth and the growth as well in the marketing costs, ultimately, our costs relatively still isn't that high. For customer, it's basically over CNY 100. Now this is the more immediate policy and the more immediate things that we need to do. But for the third quarter, we expect to see continued growth as well in terms of our customer numbers.

Operator

Your next question comes from the line of Alex Zhou from UBS.

Huanan Zhou

[Foreign Language] So I will briefly translate my question. My first question is on the follow-up on the customer acquisition costs. So we have seen that Lexin has increased its investment in sales and marketing in this quarter, but also, at the same time, maintained very good efficiency on customer acquisition. So if we look at the per customer cost on per user -- per approved user with credit line, so it seems your customer acquisition cost has slightly declined Q-on-Q. So can you share with us how did Lexin achieve this given the industry trend of a rising customer acquisition cost? And could you share your views on your future trend on these per customer acquisition cost? And my second question is on your institutional funding model. So I would like to know how -- what percentage of your current institutional funding is now under a complete risk-free model where the funding partners take all the risk? And given that, we should expect such a model will lead to a slightly lower tick rate for Lexin. So how should we expect that future margin for Lexin given the gradual shift? And second, do we have any specific target percentage on what percent of our institutional funding will be under Lexin risk-free model in the future?

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] So Alex, I think it's important to point out on the customer acquisitions, from the beginnings of the company to now, Lexin has always adopted a multichannel model. We have online, off-line. We have, of course, also referrals. We have consumption scenarios. We have our own commerce. And as a result, this benefits our overall situation and our sales and marketing costs as a whole. Now the sales and marketing costs is up in the second quarter. We have spent up to CNY 100 million in terms of advertising and brand building. But overall, our numbers are probably about the same in terms of customer acquisition in Q1 versus Q2, something like 150 versus 149.

Unknown Executive

115.

Tony Hung

Sorry, 115 versus 100 ...

Unknown Executive

19.

Tony Hung

19. Now in the future, in terms of how we'll continue to do things, it will very much be rather same. It's not going to be a situation where, for example, the industry grows and then we grow. No. We have our own systems and we have our own ways of acquiring customers. So hence, we'll continue to grow and we'll probably continue to exhibit strong growth as a result. Now that said, because of the amount that we spend on ads and brand building in the second quarter, this has, of course, naturally led to an increase in traffic, which then, of course, leads to additional customer acquisition for the quarter.

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] So I also want to add, in addition to everything that we just mentioned, there are also certain natural intrinsic benefits, if you will, to the Lexin ecosystem, which arises from the fact that we have consumption scenarios and we have an e-commerce platform. So for example, if there are products that right now can be offered at preferential rates, then we benefit from the natural customer flow that comes from that. Similarly, we have the ability to give our customers better deals, including, of course, better APRs.

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] So with regards to the question on the institutional funding and in particular, the type of funding whereby we have a full pass-through of the risk to the institutional funding partners and where the profitability can be lower, I think it's perhaps best that we point out that, similar to other things within the Lexin system, our funding and risk model is also diversified, and we do have multiple options which we keep and explore at different times. In terms of how it works, whether it's on the guarantees or it is pass-through as well as the economics, it's basically a negotiation. And it depends on the ultimate economics with and then we adjust depending on the exact situation. So right now, you can say that, overall, there's probably not a particular goal in mind for the future, rather it's something that we continue to negotiate and which we'll adjust depending on the market environment.

Operator

[Operator Instructions] Your next question comes from the line of Lucy Li from Goldman Sachs.

Wen Li

[Foreign Language] I'll briefly translate my questions. The first one is on funding costs. We noticed that even though the quarter-to-quarter funding cost has been stable, but the funding cost in the first half of this year has been more expensive than the average of last year. Given the liquidity condition from the bank side, it's relatively abundant, are we -- can we fairly expect the funding cost to us to gradually become cheaper for the rest of the year? And then the second question is regarding the restatement of the financial results in 1Q. It will be very much appreciated if management could explain more details on the restatement. And what kind of -- what have we done to prevent such things from happening again? And then related to that, we noticed that the interest yield for the on-balance sheet loans for the 1Q will be lower down to 20% and we've observed a significant gap between the 20% versus the APR of 25%, would appreciate a explanation.

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] So Lucy, on your first question on the funding cost, it might be because you are looking up a little bit more at the on-balance sheet portions which are historicals. So as we all know, last year, the historical costs tended to be more expensive. Now for the new funding that we have, that's not necessarily the case. But it should be noted that our approach to funding is that we take a diversified approach. So in terms of the diversification in terms of the model, it can vary, and it will adjust according to the market environment. But we do very much focus on a few things when it comes to our funding, which is to continue to manage and maintain diversified sources to spread the risk and perhaps most importantly, maintain multiple channels and options. But again, on the more expensive costs, that might just be the historical costs, if you will.

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] Okay. So overall, I think, first, you can say that the problem was perhaps in 2 areas. But obviously, we're very apologetic about the fact that such a situation has occurred. Now the 2 areas. One was with regards to the release during the season or certain coupons or benefits package, there was perhaps some tracking that was not done properly internally. Also, for certain of our better customers on the longer tenor, when we provided them with certain benefits, it was perhaps also not accounted or tracked property. Now since then, we certainly have done a lot to verify and to put a new processes to -- and also to confirm on a lot of the information. And perhaps it's worth pointing out that a lot of this arose as a result of the fact that we have adopted 606 and also new systems. So it was discovered by us during the one-time process of adopting new systems, so it is quite likely that this is, if you will, a one-time item that results from this as a result, but we very much have put in new systems in place as part of the process to prevent such a thing from occurring again.

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] So overall, I think I want to emphasize that we're pretty confident now in our ability to prevent such an incident from occurring again. And on your other question with regards to the APR, for the first quarter APR after the adjustments. I think it's always worth pointing out that the on balance sheet portion, quite often, because of the recent adjustment, can't necessarily be symbolic or representative of some of the things that is going on underlying in our business. So basically, it might not be a good representation of the business.

Operator

Your next question comes from the line of Alan Kuang from Aletheia Capital. Alan Kuang;Aletheia Capital;Analyst: [Foreign Language] This is Alan from Aletheia Capital. I have quick questions on asset quality in recent weeks with all other banks reporting their first half '19 results. And we saw a general increase in retail loan NPL. We are a little bit concerned about Lexin's asset quality and given Lexin's customers is less prime as compared to bank's customers. I've also noticed that Lexin's 90 days delinquency ratio has gone up to 1.49%. I'm wondering if management can give us some colors on asset quality and share with us if you have put in place any preemptive measures to deal with the potential credit cycle.

Ryan Liu

[Foreign Language]

Tony Hung

[Interpreted] So I think I'm translating for Ryan, our CRO. The first thing that's probably worth mentioning and discussing is the overall bank credit card environment. It should be noted that 2 years ago, as fintech was really, really growing rapidly in China, the banks, and in particular, the banks issuing credit cards, felt a lot of pressure. And from this pressure, they actually issued far too many cards, and in fact, far too many cards to lower-quality borrowers. So overall, I know for a fact that the quality of the borrowers by the banks are definitely down over this time period. In fact, one can even say that in terms of the 2 years, the difference in terms of the quality of borrowers is substantial enough now that the new borrowers, a lot of them, there is actually very substantial overlap with payday loans. So naturally, as a result, what you're seeing today is that the credit card numbers are, in fact, worse. But for us, the cohort that we're targeting are the educated young adults. And of course, these are far better quality credit than the payday loan borrowers. [ Alan ], does that answer your question? Actually, continuing.

Ryan Liu

[Foreign Language]

Tony Hung

[Interpreted] So [ Alan ], overall, in terms of -- again, in terms of our customers, they're really much more like prime customers. So this is not going to be the situation where, again, the bank credit cards now are doing a lot of sub-prime payday loan types. And these are very much new customers on our part. Again, the young educated, young adult customers, recent graduates, they're not really connected, in fact, to the bank credit card industry or what is going on there. Also, it's worth noting that these are individuals who very, very much care about their future. Therefore, they also care about their credit and managing their credit, which is why we continue to be stable, we continue to maintain a very, very good position. Now with regards to the rates that you mentioned, right now, we're about 1.49%. Historically, we're at say between 1.4% to 1.5%. So this is clearly within that range and stable. Now the 1.49% part of it is the fact that during this time, we had been doing some tests and are doing some experiments. So as a result, you can view, if you will, the changes as the costs already expenses associated with those tests.

Ryan Liu

[Foreign Language]

Tony Hung

[Interpreted] So with regards to the next 12 months, we'll certainly continue to maintain a very careful if not conservative outlook and be very, very careful about the market risks. We'll certainly keep a close eye on situation, but we'll certainly do other things it requires to maintain, if you will, a very conservative and good quality credit.

Operator

You have a follow-up question from the line from Lucy Li from Goldman Sachs.

Wen Li

[Foreign Language] I'll briefly translate my 2 questions. The first one is a follow-up on asset quality. Can you help to illustrate how we can avoid the low-quality customers from bank? Because for a applicant who provides information with their bank card details, then they could as well appear as a prime customer, but it seems that we have successfully avoided this client group by far. And the second question is on the growth or outlook for the second half. Can you help to illustrate for the growth for the second half? Would it mainly come from the existing clients or the new clients? And then if it's for the new clients, how do we acquire such clients? Is it from the off-line new scenarios or the online? And it will be great if you can explain more on the Lehei Card.

Jay Xiao

[Foreign Language]

Tony Hung

So let me translate first the answer on the first question. [Interpreted] So in terms of how we're able to do things that the banks aren't able to do, well, fundamentally, when we actually go out to measure the risk and assess the risk, we're probably doing something that is much more comprehensive than what the banks are doing. So for example, first half, our cases were typically, we look at 7,000 data points for individual customers versus what the banks might get from a form associated with the credit card. Similarly, when you look at the underlying customers that the banks might be issuing credit cards to, they might be issuing to someone who is, for example, 40 years old, or also someone who is basically the delivery guy. Those are actually customers that we wouldn't want. So hence, we actually avoid a lot of the customers that the banks would go after.

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] So overall, in terms of the second half and how we'll get to the CNY 70 billion of the amount that's remaining in our guidance, well, first, let us say that, actually, now that we're 2 months into the third quarter, we've probably accomplished a not small part of that CNY 70 billion already. So hence, as a result, we are very much full of confidence in our ability to achieve our goal. With regards to the customer acquisition, things are very much not just on track but doing very, very well. In fact, we are looking at a third quarter that's going to, in fact, also even be better than the second quarter. We've acquired actually something like 1 million customers in a single month. So things are definitely doing very, very well. In terms of the loans or the loan origination that's going to come from new versus old, we're looking at probably something like 30% coming from new customers. And overall, in terms of how we acquire customers, we have talked about this earlier, but essentially, it's going to always be an integrated approach, that integrates off-line, referrals, our e-commerce, as well as advertising and promotion.

Operator

[Operator Instructions] Your next question comes from the line of John Cai from Morgan Stanley.

John Cai

[Foreign Language] My first question is about the customer acquisition. So it's very excited to hear the company has recently increased the new customer per month to over 1 million. So just wonder as we can see that when the customer increase sales and marketing online customer acquisition this quarter, the effect is very notable. So just wonder on whether that would be a future major customer acquisition trend of ours. And if we just look at this online acquisition part, what will be the acquisition costs and what type of products we offer to those customers acquired online? Any difference versus those traditional trend, those like e-commerce, referrals and off-line promotions? And my second question is about the content adjustment. Just wonder what's the operational [ since ] we did on the first quarter that we saw a notable interest income [ waive ] or discounts. And when we disclosed the APR coverage, does that include or it excluded this discount?

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] So with regards again to the marketing costs, I think, again, I would like to emphasize that we don't want to focus on a particular channel. We always want to have a diversified approach. We always want to reduce the concentration risk. And then ultimately, when we look at this situation, each channel has its benefit. There is advantages to each of the channels. And on the advertising where we have done a lot recently, we've actually spent a lot of time on -- and effort in analyzing very, very carefully how to maximize the impact from the advertising. So as a result, we've been able to achieve relatively lower costs. A key part of this is, based on our analysis, our ability to, in fact, through advertising attract a 100 customers which then may, in fact, lead to another additional 30 to 40 customers via referrals or other means. And as a result, this will keep our costs under CNY 200 per customer. So ultimately, when we look at the situation, yes, the advertising is definitely good. Yes, it's done very well for us. But we're not going to overly rely on this or any other channels. We're going to continue to analyze and work hard on developing all our diversified channels, including advertising. And through the advertising, also how it enables us to create from the advertising our customers, which then creates additional customers. So ultimately, it depends on the quarter, it depends on what's occurring in the market. We're going to adjust our approach accordingly. But again, if there's 2 things I want to emphasize, it's, 1, we want to have diversified sources. We definitely don't want to rely on any 1 or 2 single channels. And secondly, just as importantly, this needs to bring a long-term benefit. We need to have additional advantages resulting from each dollar that we spend on advertising that will give us a long-term ability to acquire even more customers.

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] So John, on your second question, I think it's worth pointing out that there were actually 2 adjustments which, in fact, were different. First, there was in the first quarter the promotional events which occurred, where, unfortunately, we didn't capture enough of the [ year ] numbers effectively. So actually, after counting that in, then yes, the effective APR would probably be a bit lower. Now the second item or adjustment is for that certain customers in the past where we've offered reduced expenses, APR fee or interest rate periods, we probably did not account for it as accurately as we could have, so hence, we had to make an adjustment for that as well.

John Cai

[Foreign Language] So I just to want to follow up on for the customer we acquired online. When we offered them the first product, would it be any different as compared to for those customers we acquired from traditional channels in terms of interest rate, ticket size and tenor?

Jay Xiao

[Foreign Language]

Tony Hung

[Interpreted] Yes. John, in regards to the question, I think online versus off-line, the initial offer, no real major difference. Tenor, probably about the same. APR, probably about the same. Where there might be a difference is that the -- in terms of the amount of credit, it might be a little bit lower for online, because off-line, you do actually have the human face-to-face engagement. So other than that, really probably no real difference.

Operator

There are no further questions at this time. Thank you, ladies and gentlemen. That does conclude the conference call for today. Thank you for participating. You may all disconnect.