LexinFintech Holdings Ltd. (LX) Earnings Call Transcript

[Interpreted] And so on your second question on the risk, well, our customer cohort hasn't actually changed. So if the customer cohort and the underlying customer hasn't really changed, then you know the underlying risk hasn't changed. So the product may have changed, the terms may have been adjusted. But the borrowers, their profile, who they are, et cetera, it's still largely the same. So hence, we expect actually fairly limited impact.

[Foreign Language] So I have a follow-up. So do you have any target IRR in mind? And with the future downward trend on interest rate, do you plan to further lower your IRR going forward?

[Foreign Language]

[Interpreted] So Alex, as I think you know from dealing with us in the past, our focus has always been on growing with our customers over time. And if we grow with our customers over time and if we serve our customers at different times, they're going to have different risks at different times of their life depending on what age they are and other factors. And we have to build out the models and numbers around a great position to be able to assess the risk properly at these different stages of their lives. So naturally, if the customer over time reaches a level that is lower risk, then naturally their APR and their rates should be lower. And it's always been our goal to follow this trend. So over the long term, it's always been our goal to grow with the customer and to have the APR become lower over time. And of course this in turn also means that the risk for the customers naturally is declining. So this is a balance with regards to the situation that we always have to keep in mind. And one of our goals, of course, is to balance this so as to generate good returns for our shareholders.

[Operator Instructions] Our next question comes from the line of Daphne Poon with Citi.

[Foreign Language] So I have a few follow-up questions. So first is regarding your breakeven interest rate level on an hour basis, wonder if the management can share that. I think this is also related to the previous question, talking about this APR trend, because the rate cap is like a [indiscernible] interest rate mechanism. And since we presume that the APR will get lower further, so want to understand what is your current breakeven interest rate. And second is just want to confirm in terms of your product this time for the higher price in customers while you're increasing the duration, do you also plan to increase the ticket size as well? And Craig, checking on the -- in addition to the product optimization adjustment, do you also see any room for your cost optimization, including the earning cost and your operating expense.

[Foreign Language]

[Interpreted] Yes. So I think Daphne understood that fully. When we're talking about a breakeven point, and when we're talking about the different APR and IRR, it touches upon the different levels and the cooperation as well with the funding partners. If you adjust one thing, other things may change which also may lead to other changes. So it's not necessarily that straightforward of a analysis. It's certainly not like some of the things more simply calculated that you're seeing out there that basically, you just adjust it one way in particular since there's a lot of moving pieces. So it's definitely not a straightforward analysis.

[Foreign Language]

[Interpreted] So regarding the product adjustments, well, we definitely made some. But perhaps it's always worth noting that to begin with, we began at around 24 or so percent in terms of the IRR and of course a much lower nominal APR. And just naturally from the evolution of our customers or even if you look at our history, the competition and otherwise, we fully expect the rates and the products to adjust accordingly. Now this is also a reflection of other things going on with the structure. And one thing, of course, is the cost of funding has been dropping. Even before the court's announcement, it dropped. And hence, these things are happening irrespective of perhaps what the court said. Also, of course, the credit and the risk statistics are definitely getting better and improving as well. So that will certainly impact the economy. OpEx, I don't think we're at 5% to 6%. I think we're in a pretty good position. I think in China, a lot of companies, ourselves included, have done very, very well on this. I think, yes, there's been periods where the sales and marketing may be higher. Also, there may be times in which we have certain new products, new initiatives that might require more operating costs. But I think historically, we've been maybe as well as 4% or even lower, and there's definitely different areas and different places where we can optimize this further just like optimizing other parts of, if you will, the product economics. So there is definitely the potential for these things to become lower, but I think we're in a good position overall.

Your next question comes from the line of Sanjay Jain with Aletheia Capital.

A couple of quick questions. First is -- I don't know whether you have reviewed the Ant prospectus and the numbers they have presented. There, what they call credit tech revenue, so that is the name they are using for their loan facilitation business. It works out to just 2.7% of the average loan balance. How can it be so low? I mean, do you have any thoughts around why that would be the case? I would think that, that is the number, which compares to the roughly 1/3 of 24%, i.e., the 8%, which you would get, so 8% versus 2.7%. And this is particularly interesting because their customer base seems to be far more diverse and probably more of lower income customers compared to yours and probably not as well educated and all that. So in theory, the credit risk and the lending rate should be higher. So that is the first question. Why? And the second question would be on the Huabei product. How does your -- maybe the Le Card or the Lehua Card would be, I guess, more comparable. Have you done -- run any comparison of the features and why any customer would prefer your card versus theirs or whichever way?

Sanjay, let me translate for you. [Foreign Language]

[Foreign Language]

[Interpreted] Yes, so I think perhaps, first, Craig would like to highlight there is obviously a perspective out there. But in some respects, the disclosure, it can be kind of limited, so we wouldn't suggest anyone necessarily just take one number and divide by another number. As I think all of you know, there could be a lot of complicated accounting work going on. And on one hand, we could potentially speculate on what might be going on. On the other hand, that might not be either appropriate or may take too long for this call. But certainly, perhaps off-line, we can have a discussion to speculate about what the things might be. But again, we wouldn't necessarily know or be able to get to the bottom of it per se. And I think overall, in terms of what they do, it may be something that is very specific to, shall we say, very unique cohorts or the unique cohorts the market that they can get access to and work with successfully. So if you will, their product and what we're producing is a reflection of that.

[Foreign Language]

[Interpreted] So Sanjay, I think it's worth pointing out that fundamentally, what Huabei is, is like a credit card, it's like a virtual credit card. So when you use it, it does not automatically become installment payment, rather, you have to go through a process. So to begin with, when a user starts using it, it begins fundamentally very different. And of course, the Huabei card also has an interest-free period, whereas our Lehua Card is an instant installment product where instantaneously, the user -- when they use it or when they start using it, it's with the understanding that they're going to pay over time and over a specific point of time and hence, it's automatic. So that's one very not small, initial difference. A bigger perhaps difference is the simple fact that Huabei doesn't work with Tencent. It does not work with the Tencent ecosystem, whereas our product, the Lehua Card will work with WeChat, will work with Ant, will work with UnionPay, will work with everybody. So hence, we actually have, in some respects, more scenarios and more ways to access more channels than even Huabei, depending on how you measure it. Now also something that I think we emphasize quite often, our customers, our cohort are fundamentally different. They're younger. And we typically offer better credit limits, higher amounts to these customers than what Huabei would. And we still see that they prefer this product that goes into automatic installments, which is their goal. And in the future, as we've just discussed, we'll be able to provide additional scenarios in the future for our young customers. Scenarios that Huabei wouldn't necessarily even have access to.

Your next question comes from the line of Tangshan with Nomura.

[Foreign Language] Thank you very much for your presentation, and I have a question regarding the funding model. What's the share of the profit sharing funding model in second half this year? And also what's your targeted share of the profit sharing fundings going forward? And what's the key driver for the profit sharing funding model?

[Foreign Language]

[Interpreted] So I think when we look at the funding model, the profit sharing model, it was actually developed in the beginning -- in 2017 actually. And for a while, it was just single digit funding. But now currently, we're looking at around 40% of our funding is profit sharing during some of this time in this quarter. And we've indicated that for the fourth quarter, we're hoping to get the number to 50%. And next year, we will probably go higher than that. Now in terms of it, maybe funding going to 100%, probably not. We'll definitely continue to do some other things here and there, maybe not to make it anyway, but we'll keep some, for example, ABS. We might use our microloan license a little bit, we might have a little bit of trust, et cetera. But essentially, the publishing model will definitely increase. Now what's driving this? Well, part of it is, of course, our desire to be a capital company -- sorry, a technology company which requires less capital and to be less capital constrained. Also, obviously, this is also something that's preferred by the regulators. Also, we're offering a window for small-, medium-sized banks to participate in a lot of the consumption in China. And fundamentally, especially from a regulatory perspective, it is the job of the banks to take on some risk. This is fundamental. But to do this, of course, it requires a building of trust. They, the banks, need to get more familiar with the system, which is something that we're helping with. And this, in turn, is what's driving the growth in it. Everyone becomes more familiar with this model. As there's increasing trust with the model, there is then increasing growth with the model. So hence, these are the things that are driving it, and again, I think also this is very consistent with our goal of requiring less capital from our business which is part of us being a pure technology company. So I think those are all the things driving this.

[Foreign Language]

[Interpreted] So I think on this profit sharing strategy and the reduction of the use of capital or lightening the capital loan, this is something that is very strategic and important in terms of our goals and what we want to do. As mentioned, in August, for example, we would originate something like 40% of our loans using the profit sharing model. And again, for the fourth quarter, sometime, we may be looking at 50%. Now with regards to this, I think the more we do this, you can say that it will change the nature of our company and our business. We'll certainly become much more capital-light, much more like a technology company, as Craig mentioned. And this is also a process of educating the market. From this process and from developing our funding partners in the past, we've been building trust. We build trust consistently with the funding partners and this is a process in which we have to educate them so that they know our risk control systems are secure, that we have high-quality assets and hence, we transition to this model. Now the benefits are many. But the key one you can say is we, if you will, loosen from the shackles of leverage. Before, there would be limits on the potential. Before, we would have to contribute 5%, for example, in order to fund a particular loan. Now, we don't have to. Once we get more and more partners educated on this, the limits on [indiscernible] when it comes to leverage is gradually removed. Also, in terms of the risk, the nature of the risk changes as well. Previously, in terms of the risk, potentially, you could say there is a loss of capital. Now under the new profit sharing arrangement, all that we will lose is potential profit. So there will be no loss to capital. So with regards to what this model brings, if you think about it, what this really brings ultimately is the ability to support our future growth, it's the ability for us to continue to grow strongly and continue to maintain a high-growth business and continue to serve our customers in better and newer ways.

We do have a few more questions. The first question comes from Steven Chan of Haitong International.

[Foreign Language] What we've seen is that the day before yesterday, the -- according to the CBIRC conference, one of the spokesmen saying that the consumer finance company, they should not charge more than 24%. And at the same time, what I heard is that over the weekend, the regulators such as CBIRC had a meeting with some of the loan facilitation company. And in the meeting, they also mentioned that they will not restrict banks to lower the APR of the credit card to below 18%. So does that imply that -- or have you heard from the regulators or the banks saying that so-called high cost interest rate rule 15.4% will not apply to the financial institution? And the second question is that if this is the case, why do we have to change our product mix or lower the interest rate or the lending rate to our customer? Is it because of the requests from the borrower? Is it request? Is it because of the requests from the financial institutions or some other reasons like you mentioned about competition or because we are moving towards profit sharing model, so that's the first lot of question. The second question is, recently, we have seen the rising money market rates in China. And at the same time, we have seen more simply competition for the interbank certificates of deposits for -- among the China banks, especially for the small to medium-sized brands. So we believe that this will likely to raise the funding cost of these banks. So will that affect the downtrend of our funding costs, our own funding costs or will then affect the profit sharing resale of our profit sharing products?

[Foreign Language]

[Interpreted] So Steven, with regards to your first question, you're absolutely right. I mean, financial institutions, they're not subject to the suggestions of the court. They're subject to the financial regulators. So yes, they are not subject to the rule. So on your question on the -- well, why, why are we doing these adjustments, why are we making these changes? Well, there's definitely been nothing, if you will, in terms of complaints from the customers or things like that. But I think you've followed us for a little while and many others on the call have followed us for quite a while as well. I think everybody knows that we always try to be a little bit better. We always try to be a little bit ahead of the curve. We always try to make things a little bit, shall we say, more compliant than it needs to be or sometimes even a lot more. And this keeps us basically, consistently ahead of the curve whenever something might arise or occur as it has in the past. Also, by doing this, we believe that we're going to improve our systems fundamentally. We'll be able to better assess what's the right product mix, we'll be able to offer better products. And hence, we think that August would be actually very good for the company with relatively limited impact to the economics.

[Foreign Language]

[Interpreted] I think I'm sure what you've indicated about the money market is correct. We do also see that, in general, in China as a whole, there is a situation where there is a lot of liquidity around, there is plentiful cash. And at least in terms of what we're seeing, the cost of funding, the trend continues to be lower. Now longer term, on a national level, what happened with the cost, well, it is too difficult to assess and it's too hard to say. That said, we believe that based on our many years working with financial institutions, our strong reputation, our reputation for good credit quality, that we should be able to continue to get relatively lower cost of capital. Operator, maybe just one last question.

Certainly. The last question comes from the line of Jacky Zuo of China Renaissance.

[Foreign Language] Number one follow-up question is about the pricing adjustment. So I just want to know how much of our current -- how much percentage of our currency loans are priced above 15.4% APR or in IRR term, above the 27% IRR. And the related question is, previously, we actually use relatively high IR to cover the new borrowers with high risk. So will this pricing change to affect our customer acquisition for the portion with a relatively high risk? And second question is about our funding. I just want to learn the latest feedback from our funding partners, regarding the price -- regarding the lower lending rate decision from the supreme court, essentially from different institutions, for example, our funding cooperation with ICBC any adjustment on that. And also, last one is about our vintage loans. Given our lower phase 7 delinquency rate, do we expect a trending down of vintage loans for our recently issued loans?

[Foreign Language]

[Foreign Language] [Interpreted] So Jacky, I think when you talk about what percentage is over that, it's something that's a little bit more complicated than maybe a specific line, et cetera, but there may be other adjustments. But we would say that it's actually not a significant amount. So overall, the impact is minimal. And as we mentioned, in the third quarter, we're definitely bring it down. In the fourth quarter, potentially, it will be all below. And based on our assessment after adjusting down accordingly, there's actually relatively limited impact to our overall financials and goals. So yes, it's more complex than that, as mentioned. And ultimately though, it doesn't seem to have a too significant impact. Now related to that is, of course, the customer acquisition. Now for these particular customers that are higher, the methods may need to change a little bit. We may need to approach them, as mentioned earlier, with different types of products. We might need to adjust something for this group, but it's also a very small cohort or a percentage of our business. And we're certainly developing ways to better assess the risk and also better assess the ways in the advertising and how we acquire these particular customers. So there's a few things going on here. I think on the funding side, obviously, we've had some time to talk to the regulators. We have some time to talk to the funding partners and everyone else, and everybody has had discussion. In short, everybody comes to a conclusion, more or less that well, this doesn't really apply to them. But everyone continues to discuss about what the next step or what are the appropriate things to do. So we'll see how things develop.

[Foreign Language]

[Interpreted] Yes. So overall, in terms of the credit quality, it's definitely getting better. A lot of the statistics are declining. As I think we disclosed, it's similar, sometimes even better than last year before COVID-19. Now that said, for some of the vintage trends and the overall trends, you may see actually something a little bit higher. But longer term, the overall trend is definitely positive. Everything is down. There may be certain quarters that are exceptions, but again, generally, everything is going in a positive direction.

Thank you very much. Thank you, ladies and gentlemen. This concludes the conference call for today. Thank you for participating. You may all disconnect. Thank you, management. [Portions of this transcript that are marked [Interpreted] were spoken by an interpreter present on the live call.]