Cielo SA

BOVESPA:CIEL3

Earnings Call Transcript 2019-Q4

[Operator]

Good afternoon, everyone, and thank you for waiting. Welcome to Cielo Fourth Quarter of 2019 Results Conference Call. With us here today, we have Mr. Paulo Caffarelli, Gustavo Sousa and Jean Leroy. [Operator Instructions]

This event is also being broadcast live via webcast and may be accessed through Cielo website at ri.cielo.com.br/en/ where the presentation is also available. Participants may view the slides in any order they wish. The replay will be available shortly after the event is concluded. Those following the presentation via the webcast may post their questions on our website. They will be answered by the IR team after the conference is finished.

Before proceeding, let me mention that forward statements are based on the beliefs and assumptions of Cielo management and on information currently available to the company. They involve risks and uncertainties because they relate to future events and therefore, depend on circumstances that may or may not occur. Investors and analysts should understand that conditions related to macroeconomic conditions, industry and other factors could also cause results to differ materially from those expressed in such forward-looking statements.

Now I'll turn the conference over to Mr. Paulo Caffarelli. Mr. Paulo, you may begin your presentation.

[Paulo Caffarelli, executive]

Thank you. Thank you all of you for taking part of this conference. I think that my main message for the investor, for the analyst is Cielo is back on the game. We can emphasize this by: the first thing is we gained market share on the first and second quarter '19. These didn't happen since the first and the second quarter in 2014, almost 5 years. The second thing is related to the volume. We grew 12.6% year-over-year. For us, it's very important. It means in Brazil, almost 10% of the Brazilian GDP.

The other thing is, we reached at the end of the December, 1.6 million in terms of customer. This didn't happen in Cielo since March '17. It's very important for us to maintain a consolidated base in our portfolio because we have the -- all the products and services for providing these kind of customer.

The first thing is we have sold 1.3 POS in Brazil -- 1.3 million POS in Brazil. This is important because since 2018 Cielo didn't sell POS. We started to do this in the end of 2018. And now we have these good emphasize, this could reinforce our basic customers. The first thing is relating to the SMEs, Entrepreneurs, that we have a growing -- SMEs and Entrepreneurs, we have growing faster than Large Accounts since last June. For us, it's very important when we analyze our portfolio, our mix portfolio, it's very important that you can increase more SMEs and Entrepreneurs than Large Accounts because Large Accounts can bring us volume, it can bring us data. But in fact, the name of the game nowadays in Brazil is SMEs, we need to focus on SMEs and try to increase our participation in this segment.

We defined 2019 for the year of customer relationship, the score interfering our results in the customer satisfaction. In this case, we defined that NPS will interfere 30% in terms of participation in the variable compensation for the total of employees in Cielo. It's very important because up to this figure used to be just 40%, just 5% in terms of participation. We are doing a very hard work in terms of call center to develop our call center, try to establish a new kind of commitment, and we can improve the decisions and definitions for to be more -- to provide more support to our customers.

In terms of customer satisfaction, yet, we defined that we need to be much more effective in terms of to provide equipment to establish the maintenance and other things. The most complex product portfolio we have in Cielo, this is very important because, I think, that we are the only acquirer in Brazil that has a lot of the products in terms of from entrepreneurs to big companies.

Another thing is relating to the e-commerce. We are nowadays, the leadership of this market in Brazil, more than 50% in terms of market share. This is important because it's another kind of business that we have. We don't -- are just -- we don't have -- we don't focus on just on POS, but we are looking for another kind of development from equipment and solutions that we can provide to our customers, like QR code, like links, et cetera.

The other thing is, I can reinforce to you that Cielo is already in all the segments in acquired Brazilian market. In this case, we are working hard from entrepreneurs to big companies in Brazil.

And now, as I told you before, we tend to be more emphasizing, more present in terms of Retail. We have developed it in 2019. 17 new kind of strategic partnership with a lot of big companies in Brazil, and then can bring it to Cielo other kind of opportunities to be involved in terms of business related to the payments, but other kind of business.

We defined 3 kind of business units in Brazil. In our company, Large Accounts, Retail, SME and Entrepreneurs. It's important because each kind of this segment, we need to focus on in a different kind of strategy. I think that we did the right job in this case, because in 2020, we can see the first results among these segments.

Another thing important is related to ZBB, we defined 1 range to be involved in ZBB in Cielo, then you can reach in this year, almost BRL 300 million. It means more than 10% of our total budget that you can interfere in terms of to cut expenses.

And related to hunters, we have 1,000 hunters nowadays working out of our offices, and this is important because even we have the banking channels. Back to Brazil, Bradesco, Caixa, we can be much more involved in terms of to our own channel when we decide to have these 1,000 hunters. For us, it's very important because concomitant with the business developed in the channels, we can be involved with hunters, with farmers. And these segment needs to improve much more in Cielo because it's important to establish our balance relating to the banks and relating to our own channels.

The other thing that we need to follow this year. And for us, it's very important, is increase our participation in terms of prepayment. Nowadays, our penetration is 22%. And when you analyze and compare this with another competitors, I think that we can reach this much more because a lot of them has more than a half in terms of penetration in terms of prepayment. We have a very large room for to be involved in these prepayment. At the end of the day, MDR, rental and prepayment work together in terms of price. In this case, our main challenge today, this year, is to develop prepayment in Cielo.

Now I ask Gustavo do the presentation. After that, we can come back to the Q&A. Thank you.

[Gustavo Henrique de Sousa, executive]

Thank you, Caffarelli. Good afternoon, everyone. Starting our presentation on Slide 4. We have a snapshot of our operating results. So we have a financial volume in the fourth quarter of BRL 190 billion and that's a 12.6% increase year-on-year and 10.7% increase quarter-over-quarter.

Our client base achieved 1.6 million clients that's say, roughly 18% growth in the year. Our credit volume paid in 2 days totaled BRL 21.5 billion in the quarter. Our net revenues totaled BRL 2.9 billion and our net income totaled BRL 242 million.

On Slide 5, we see the evolution of a few metrics, financial volume reaching BRL 190 billion, a 12.6% growth year-on-year. Our client base with a close to 18% growth, totaling 1.6 million clients at the end of the year. And also, our credit volume paid in 2 days totaling BRL 21.5 billion in the quarter, which is an 18.8% growth year-on-year.

On Slide 6, we have a look at some highlights of our income statement. Our net revenues totaling BRL 2.9 billion, and that's a 1.2% contraction year-on-year. Our EBITDA margin of 22.9% and that's 13.5 percentage points decrease year-on-year. And a net income of BRL 242 million and that's a 68% decrease year-on-year.

On Slide 7, we see our revenue yield, which is the most important component in the explanation of net income contraction. The price change is the main contributor for the revenue yield compression over the quarters. In this slide specifically, we have a comparison of the revenue yield of the fourth quarter versus the third quarter and also versus the fourth quarter of the previous year. We can see in both graphs that the price change was the main contributor for the decrease in revenue yield, and I'll talk about this in the upcoming slides with a little more detail.

On Slide 8, we show the 3 sections that we will approach as highlights of our 2019 performance. The recovery of our presence in SMBs also highlights on customer experience related to improvement in quality of service and also brand recognition.

Moving to Slide 9. What we see in this graph is the evolution of revenue yield for Cielo's portfolio. We see that since the first quarter of 2018, we have seen decreases of revenue yield quarter after quarter. I know we have talked a lot about this in our meetings with analysts and with investors. In the second quarter of 2019, this was the most pronounced drop of prices that we saw in our market in Cielo followed that. But after that, we continue to see a pressure in terms of prices. Another important information that we have in this slide and now relating to Cielo's Retail portfolio to Cielo's SMB portfolio is the fact that now 75% of our Retail portfolio has been repriced.

Moving to Slide 10. We have some comments on our new sales model. We hired 1,000 new employees categorized as hunters, as employees that have the sole job to pursue new clients. And we see in this slide how quarter after quarter, the work of the hunters has evolved. From the first quarter, we see an immediate contribution in terms of an addition of clients of new accounts that were brought in for Cielo. Starting on the second quarter, we started to change to adapt this model prioritizing the size of the client, the volume that the client brings to Cielo and not prioritizing the actual amount of clients that are brought for Cielo. As a result of that, we see that over the quarters, the contribution of the hunters to the total volume of the Retail portfolio of the SMBs portfolio has increased. We finalized the fourth quarter with 12% of the SMB portfolio that was brought in by this work of the hunters.

On Page 11, we see that as a combination of more competitive prices and the work of this new sales model, we have now a continuation of a trend that started in June of this year, which is the fact that the segments of SMBs and Entrepreneurs have outpaced the growth of Large Accounts inside Cielo.

Now moving to customer experience, on Slide 12. In the last year, we presented significant improvement in client services. This happened mainly due to improvement in systems and processes related to chronic problems. Additionally, and we have talked about this, I believe in the last call, we implemented a new call center model with incentives for the call center operators to prioritize client satisfaction and first call resolution. Their compensation is tied very heavily to these 2 specific metrics. As a result of all of that, we showed an 87% decrease in the time it takes to solve complaints that are raised by clients. We saw a 53% decrease in the number of calls in the call center. We saw a 16% decrease in the number of complaints in the call center, and we also saw a 60% decrease in the number of calls due to technical problems.

Moving to Slide 13. We have a highlight in terms of brand recognition. Cielo has traditionally been the top player, the Top of Mind player in its segment, and throughout the -- over the fourth quarter, we also reached the #1 position in terms of Internet searches on Google.

And finally, moving on to Slide 14, I'll talk briefly about 2020. We can see in this slide a pyramid of the client segmentation inside Cielo. In the Large Account segment, that we see intense competition with very narrow margins. We have adequate pricing for this segment, and we will not pursue clients at any cost. And when we look at the bottom of the pyramid, the Entrepreneur segment, we see that there has been an escalation in competition, mainly seen in the increase of equipment subsidies. For 2020, we won't add to this increase of subsidies. We will look at subsidies within certain limits for Cielo.

Our priority for the year will be the absolute focus on SMBs. We already have competitive prices as we have seen in the previous slides. We have competitive products for prepayments. We have a robust sales model, and we have shown improvements in terms of quality of service.

With that, I finalize the presentation and open the Q&A session. Thank you.

[Operator]

[Operator Instructions] Our first question comes from Mario Pierry, Bank of America.

[Mario Pierry, analyst]

I have 2 questions. The first one is related to the outlook for prices. You show whether your revenue yield has been under pressure. You talked about the competitive environments remaining intense. However, considering the rebates that you've renegotiated with the banks, considering that your volume mix is improving as you're focusing on SMEs rather than large corporates. Is it fair to assume that your average revenue yields next -- in 2020 should be similar or higher than in 2019? That's my first question.

[Gustavo Henrique de Sousa, executive]

Thank you for the first question. I'll be very brief in terms of comments about the future. Because this comment has embedded in it a view in terms of price and the competitive landscape. So what I'm referring to now is our view of a continuation of pricing pressure. So even with the items that you mentioned, I don't see, to the best of our knowledge to -- from what we have seen in terms of prices at the end of the year, and now in the beginning of the year, a slowdown in terms of price competition. So we are likely to keep seeing a pressure on margins and also a pressure in revenue yields, even with other items that may offset that. But that being said, we're still concerned about price and revenue yield compression.

[Mario Pierry, analyst]

Okay. That's helpful. Second question is related to volumes in 2020, given your focus then on SMEs and less focus on large corporates, is it fair to assume that you should lose market share in 2020, when we look at overall volumes?

[Paulo Caffarelli, executive]

Mario, that's Caffarelli here. In fact, when you decide to migrate from big companies to SMEs, our intention is to improve our margin. In this case, we want to accept any kind of offering from the big companies related to the price. In this case, perhaps we again lost a part of the market share in this situation.

[Mario Pierry, analyst]

Okay. And just a follow-up on that question then Caffarelli, right, you show in your presentation that you're able to grow volumes again that you're growing your client base. But at the same time, right, you're sacrificing your profitability, your return on invested capital is down to 6.6%. Your ROE is down to 16.7%. So I was just wondering, how do you look at profitability? What do you think is the appropriate level of returns for this business?

[Gustavo Henrique de Sousa, executive]

Mario, that's -- Gustavo here. That's a very tough question because we look at all of the metrics that you mentioned, ROE, EBITDA margin, revenue, yield and all of that. Our concern in terms of prices is based on first, a continuation of this trend of price pressure, that's what we see day after day. And also, when you look at our industry, which over the past year has been characterized with a reduction of barriers of entry and also a reduction in IT costs, processing costs, there's still room for new players to join this industry, which will put pressure in terms of margins. And we're not talking about pure acquiring players, we are talking about fintech companies, they may want to enter the acquiring arena to create a digital bank. We may be talking about big retailers and big tech companies. So that being said, even though we traditionally look at the main financial indicators, it's hard to establish where is a hurdle for, where the competition pressure will take those indicators to.

[Paulo Caffarelli, executive]

And Mario, if I may add something. When you're talking about the SMBs, actually, we decided last year to reduce pricing in order not to lose market share. In one of the most, if not the most profitable business, which is SMB. So the price went down, but we think continue to have a kind of 30% share in the SMB business. Making that aware that it's not a stable picture, it's a very aggressive and competitive landscape. So sometimes, we have to put a little bit pressure on pricing, which was the case in SMB not to lose market share in a business where the profitability is the highest. And then in the future, you compensate by higher gains.

[Operator]

Our next question comes from Julie Chariell, Bloomberg Intelligence.

[Julie Chariell, analyst]

I have a couple. First, I wanted to ask about the new contract with the controlling shareholder banks. And I guess, just fundamentally, I want to understand the changes in this contract compared to your prior relationship. What are the banks going to be providing to Cielo now that they hadn't in the past? Or is this more just a change in the financial relationship?

[Gustavo Henrique de Sousa, executive]

Thanks for your question, Julie. In terms of the rationale for the contract and in terms of the services rendered by the banks, it's a similar nature of services, which has to do with the indication, intermediation, maintenance and the relationship with the clients that have their account with those banks. So it's not only introducing new clients, but also maintaining the client base that has accounts with those banks. So in terms of the basic components, those are the ones that are included in the new version on the contract and also in other versions, older versions of the contract.

In terms of the economics, in the new contract, we announced that we will pay 10 basis points on a volume that has a qualification. There's eligibility criteria for the -- this volume to drive this payment to be eligible for this payment. One important criteria is a minimum profitability metric that is embedded in this contract. This is one of the differing aspects to the old contract. In the old contract, there was a given fee that was paid in total volume of accounts with those banks without this qualifying minimal profitability metric.

[Paulo Caffarelli, executive]

Julie, if I may add. It's important this time because the most important thing in this negotiation is to adopt this kind of contract. In our current time in Brazil in terms of acquirers because when we compare this moment now and when we compare this 10 basis points, it's completed this different that's used to be the best, it's not the same reality that we are facing nowadays. In this case, it's very important for us to adapt to this. And I can assure to you that we are in most best conditions that when used to be before.

[Julie Chariell, analyst]

I see. So there's -- they're -- it's not going to be a fee that Cielo has to pay for clients who are just not sufficiently profitable for Cielo?

[Gustavo Henrique de Sousa, executive]

That is a fact in this contract, there is a minimum profitability level.

[Julie Chariell, analyst]

And do you see that the banks, in this case, becoming a source for credit business for lending for Cielo, maybe for some of the smaller clients who the banks wouldn't take on?

[Gustavo Henrique de Sousa, executive]

That's an important question. So I may be long-winded here. So -- and I'm sorry, if I talk about some things that you haven't asked, okay, but I had to paint the full picture here. So competition in the acquiring industry is open competition, where in terms of prepayment products, the acquirers compete with the banks. So this is an open arena. So whether we are seeking a client that has an account with these 2 banks that are controlling shareholders or with other banks, any bank and any acquirer can try to offer credit or a prepayment solution to that client. So this is how this industry is established in Brazil. Even though we have this agreement with the banks, we compete with them in terms of prepayment products. We currently don't have a fully launched credit product. We did run a pilot of a credit product in 2019, and we are likely to fully implement it in 2020, but always competing with any bank with the 2 controlling shareholders and with any other bank in the system.

[Paulo Caffarelli, executive]

So actually, it's a total competition, it's not a pick and choose a way to be dealing with the customers.

[Julie Chariell, analyst]

I see, I see. So you'll continue building your credit business off of that pilot presumably over the course of this year, but this particular contract has nothing to do with that. It's just part of the ongoing competition.

[Gustavo Henrique de Sousa, executive]

That's right. This contract does not interfere in any sense in terms of our effort to expand prepayment penetration in our client base. And even if we decide to fully implement this pilot of a credit product that we have done in 2019. It also is an independent decision in terms of its relationship with this contract.

[Paulo Caffarelli, executive]

Even though Bradesco and Banco do Brasil are controlling shareholders, they are basically a channel for us and we don't have any type of limitation to be acting with the customers. Even if they are from Bradesco, Banco do Brasil, it's totally open.

[Julie Chariell, analyst]

Okay. Great. Is there sort of a natural segmentation that goes on here though, where smaller clients, SMB clients may be more likely clients for Cielo given your knowledge of their accounts on the acquiring side where as the Larger Accounts maybe more likely targets for the banks. Is there a natural segmentation?

[Gustavo Henrique de Sousa, executive]

I wouldn't say that there is a natural segmentation, but there is a difference in terms of level of penetration because of the way the product mix for the different clients is structured. So for micro entrepreneurs, for example, it is natural, not only for Cielo, but for the competition to have very high penetration rates in the prepayment product, penetration rates around 70%. And this is because these clients, they prefer to receive the cash right away. So usually, when you create the products, the combo that you're going to offer to that client, you already sell -- you offer a prepayment as a function, and they take it. So with that, inside Cielo, you'll see -- and there's also common for the market, a higher penetration in Entrepreneurs are close to 70%. And in the other segments inside Cielo, a penetration that is closer to 22% to 20%. But this has to do with the preference of the client.

[Operator]

Our next question comes from Tito Labarta, Goldman Sachs.

[Daer Labarta, analyst]

A couple of questions also. First, you mentioned that you're growing more with SMEs versus Large Accounts. But then if we look at the prepayment volumes, they were down to 14% of total volumes. And also, you mentioned that was impacted because of Larger Accounts. So if we look at the trend, it seems like you're actually growing more with Larger Accounts or at least in this quarter, even on the 2-day prepayments, that was down compared to last quarter. So just want to understand, was that just a quarterly thing, given that you focus more on SMEs versus Large Accounts? Or why did the prepayment volumes fall so much as a percentage of total volumes? And then I have another question after that.

[Gustavo Henrique de Sousa, executive]

Thank you, Tito. So on your question. So specifically, in the fourth quarter. And I would like you to visualize the decrease that we saw on the basic interest rate in Brazil. So we had a decrease on the basic interest rate, which led to tighter spreads for Cielo and a decision to do a capital allocation strategy, prioritizing the higher yielding segments. So for the larger clients, we have repriced our prepayment product, which led -- bear in mind that when I refer to larger clients, I'm talking about the clients who had big tickets. And if I lose a number of clients from 5 to 10 clients, this impacts this metric. So this decision for Cielo to prioritize higher yielding segments in prepayments led some clients to get their prepayments, financing alternatives, somewhere else, outside of Cielo, which led to this compression of the volume that was -- that we had in terms of prepayments.

Just to give you some color in terms of numbers related to that. And I'm going to refer to the balance of prepayments of the end of September versus the end of November. At the end of September, we had BRL 11.3 billion in prepayments. That's the balance. And the balance at the end of December was BRL 9.7 billion. So bear in mind that in the fourth quarter, it is a seasonally strong quarter. So it would be normal to see an increase there. But because of this repricing, the prioritization of the Retail segment of our portfolio, we did see a contraction in prepayments in Large Accounts.

[Daer Labarta, analyst]

Okay. So that was a contraction with Large Accounts, not because you grew more in Larger Accounts that they didn't need the prepayments, correct?

[Gustavo Henrique de Sousa, executive]

Correct.

[Daer Labarta, analyst]

Okay. So this -- like 14% of total volumes that are prepaid. Is that sort of like a new normal? Is that what we should expect going forward?

[Gustavo Henrique de Sousa, executive]

I would -- it's hard to say. It's hard to quantify because it has to do so. These products have a very short term. We're talking about average terms of 50 days. So this cycles do quite fast. So it has to do with what pricing policy we're likely to implement. So I'm not going to answer your question directly because I do not have a guidance on this for the full year. But what I can tell you is that the pricing policy that we implemented that led to some clients doing prepayment outside of Cielo is still in place. We are still prioritizing higher yielding segments.

[Daer Labarta, analyst]

Okay, understood. So I understand. This is a focus on profitability. And so I guess, that sort of plays into my second question. Before you mentioned that you expect the revenue yield to continue to fall, given pricing competition. And I assume this is even with the new rebates from the banks. So is the way to read that, that margins or earnings can still fall like this BRL 240 million in net income that we saw this quarter? I know you're not giving any guidance, but is there still downside risk to that because of pricing pressure, your costs are still high, even though you're trying to focus a bit on that? Or have we neared the bottom in terms of earnings?

[Gustavo Henrique de Sousa, executive]

Tito, thank you for providing you with the context for the answer. So I cannot give guidance, but I can share with you what our concerns are. So our #1 concern for 2020 is still price pressure due to competition. And even though we have initiatives in terms of cost reduction of higher penetration of credit products, the combination of increasing brand fees of a change in mix that has more credit, which makes brand fees more heavy and this concern of still compressing margins are at the backdrop of our view for 2020. Our initiatives to offset that may not be enough to compensate for the margin pressure that we are seeing this, but this all may change according to what price market we see during the year.

[Operator]

Our next question comes from Craig Maurer.

[Craig Maurer, analyst]

Two questions. But the first is, when we talk to competitors in the market, whether that's Stone, First Data, [ Rede ] Santander, you name it. Everybody says they're gaining share in the SME or the middle market. So considering that the SME or middle market is a finite number of merchants. Help me understand who Cielo is now gaining share from, again, to increase their share in middle market because that the commentary from all the players doesn't add up. And secondly, if you could comment on aside from Cielo's specific pricing changes, what your expectation is for the market in terms of prepayment pricing now that [ Rede ] has decided to go to 0% prepayment without the need for a bank account domicile to detail?

[Gustavo Henrique de Sousa, executive]

Craig, thank you for the 2 questions. So starting with the second question. In terms of prepayment margins, you are correct. This competitive environment and this change in terms of a key competitor leads us to believe that we will have a tougher environment in terms of margins for prepayments. That's a fact. And I'm saying that, and I can tell you that even though we haven't seen a significant change in terms of requests from our clients, our clients leaving Cielo because of that offer. But I understand it's an important offer that will put pressure on prepayment margins.

And now I'm going to try to do my best to reconcile market share movements on the retail from what you hear from us and also from what you hear from the competition, okay? So first of all, bear in mind that when we talk about Cielo regaining its presence in Retail, and we put that into perspective, we take -- we look at a long picture here. So we lost significant market share on the Retail, in our calculations, roughly 20 points of market share in the Retail in the years of 2017 and 2018. What we were able to achieve in 2019 was a stabilization of this. By stabilization, so our first item to celebrate this year was listen, we are at a given level of our estimate of market share, and we are still around this number. This number fluctuated upwards on the second quarter, where we gained share from most of the players and is fluctuated downward on the third quarter. But still, when we look at 2019, for the Retail, our job was, we preserved our market share. We stopped a trend that was happening 2, 3 years back of bleeding clients fast on the Retail. So that's how I try to reconcile the different arguments that you get from us and from the competition. And looking at 2020, it will be an important battle for all of the acquirers on SMEs. Yes, I follow your comment. Yes, everybody is prioritizing that.

[Craig Maurer, analyst]

Okay. And if I can just ask 1 follow-up. Historically, Brazilian regulators have monitored Cielo's market share looking to have new competitors gain share in Brazil. How is the -- how are the conversations with the regulators these days in terms of Cielo's overall market share and Cielo's ability to be aggressive to regain momentum and share in the market?

[Gustavo Henrique de Sousa, executive]

Thanks for the question. Our interactions with the regulators haven't built specifically or, let me say, better, heavily in terms of this specific concern that you raised. Cielo does have a market share that is now above 40%. It used to be above 60% in the past, but our recent interaction with the regulator in Brazil, hasn't weighed heavily on this specific topic. We talk about everything with the regulator. Their plans for open banking, their plans for instantaneous payments, their plans for providing a platform for prepayment for providing better transparency and access to clients in terms of prepayment options. But I would say -- I don't want to say 0, but I would say, way less in terms of a threat to competition because of the market share of Cielo.

[Operator]

Our next question comes from Neha Agarwala, HSBC.

[Neha Agarwala, analyst]

Sorry, I came in late, so apologies if I'm making you repeat any of your answers. I have 3 questions. First is on the credit product. How has the experience been in the credit product, has you set quality being tougher than you imagined? It seems like the rolling out of the credit product is on the slower side. My second question is in terms of regulation. Could you update us on the creation of the marketplace for receivables? I believe we'll receive the first guidelines in August of this year. And what is the impact that you estimate from the creation of the marketplace? Any rough estimate or any guideline would be helpful.

And my last question is on our focus area. We understand that the SMB market is now the focus area. But what about your strategy in the micro merchant segment. Do you -- should we expect lower focus on that in the micro merchant segment? And if so, what is the rationale behind that?

[Gustavo Henrique de Sousa, executive]

Okay. Neha, thank you very much for your questions, okay. So in terms of the credit product, so we created a product, a pilot of a product here inside Cielo that went throughout the second half. That was what the Brazilian market calls fumaça roughly translated to smoke, which doesn't describe the product at all. So let me try to explain it to you. Because the acquirers have the relationship with the clients, they can forecast how much that given client will sell over the upcoming months. Based on that projection, credit is offered. So this is what the market in Brazil calls fumaça. This credit product is very heavily associated with acquirers. Okay. That being said, we created a methodology where the most important credit criteria is our projection of churn of that given client. So if our projections indicate that we have a strong likelihood to remain with that client, we are comfortable granting that credit. This experience was successful on the second half. We are now -- but we ran it as a pilot. We're now preparing systems, procedures to do a full implementation of that. We are not ready to implement it yet. As soon as we launch it, we'll let the market know.

Going to your second question, in terms of the marketplace of receivables, yes, the first stage of this project will be launched in August. Right now, all of our attention is to have all the operational aspects compliant with what the Central Bank is requiring of the acquirers. I do not have projections related to that. Subjectively, this represents a threat and an opportunity. It represents a threat to our portfolio because it will be an open platform, but also an opportunity to reach out to other clients into other prepayment alternatives. But unfortunately, at this point, I don't have a projection to make on what our prepayment, how our prepayment will be affected by that.

And in terms of focus, when we look at the micro merchant segment, we saw an increase of the percentage of the value of the cost of the equipment that is subsidized to this type of client. Up to a certain point, we followed this competitive behavior, its competitive pattern from the industry. We think that now at average levels of close to 70%, this subsidy is quite high. So we will look at 2020, limiting our level of subsidies. It's still a segment with high margins, with clients that, as I mentioned in one of the previous questions, seek prepayments, right? But still, because it's an upfront cost that depends in terms of a future performance where viability depends in terms of a future performance, we'll be more cautious in this segment, which leaves the SMB segment as our top priority for 2020.

[Operator]

Our next question comes from Mohammed Ahmad, FGP.

[Mohammed Ahmad, analyst]

I just want to focus a little bit or understand the cost side of Cielo Brazil, a little bit more. Could you -- given that it's going to be a fairly challenging environment on the revenue side. Can you give us a little sense of what part of your cost or what percentage of your cost is something that you can address and control and perhaps curtail versus what portion of the cost is directly linked to just volume and will grow with it with limited control on your part?

[Gustavo Henrique de Sousa, executive]

Mohammed, thank you for your question. One of the items that we refer to in these types of interactions with analysts and investors is the fact that if we look at our cost base in 2019, and I'm talking about a round number of close to BRL 4.5 billion. If we look at items, there are directly actionable, I don't want to say manageable because every cost in the long term is manageable and you have some influence over that. But if you take outside of this calculation, costs such as brand fees, depreciations and others, we will be left of this BRL 4.5 billion, with close to BRL 2 billion of items where we have a direct influence in that cost on that given year. So this is why when we look at the evolution of costs at Cielo, we see increasing variable costs, mainly driven by higher brand fees, brand fees have been going up because of 2 things, both as a function of an increase in, I'm going to call it, the headline price of the brand fee and also because of a change in mix over the past periods, we have seen an increase of the credit component. So there's a more heavier weight of the credit in the mix and also a heavier weight of the brands that have higher fees, which leave us with BRL 2 billion or 44% of the total cost that I mentioned with an ability to maneuver around. I'm referring to close to BRL 700 million in personnel expenses and also costs related to telecom, processing and other administrative costs. So this is why it's tough, but it is part of our job to try to offset price pressure and increasing variable costs with a more efficient structure.

[Mohammed Ahmad, analyst]

Sorry, did I understand this correctly, you said BRL 2 billion is manageable of that BRL 700 million is what I didn't quite catch that.

[Gustavo Henrique de Sousa, executive]

Personnel, payroll.

[Mohammed Ahmad, analyst]

BRL 700 million is payroll.

[Gustavo Henrique de Sousa, executive]

Yes.

[Mohammed Ahmad, analyst]

Just my other question on the subsidiary side, we've noticed last year, obviously, the subsidiary losses ex Cateno on Cielo Brazil spiked up a little bit that historically been sort of close to breakeven on average. Can you give us a little sense of what you can do there? Can you realize some value there? What should we expect in 2020 there?

[Gustavo Henrique de Sousa, executive]

If we look at other subsidiaries, so we have improving performance from Cateno. That's the most important contributor for Cielo's total earnings at this moment. So there is -- we are confident that we will keep seeing improvement -- improving performance from Cateno. In the other subsidiaries, there is one that has a very strong focus of attention from management and from the Board, which is Merchant e-Solutions. That's our subsidiary in the U.S. where in April of 2019, we changed the management. And the new management has done a few things. First, they completely changed the cost structure. They reviewed the number of locations of Merchant e's presence across United States, a number of offices. They also reviewed the number of employees. They did some cuts in terms of headcount there. They propose and they are developing a road map of products and solutions. And throughout the first quarter, we will -- this management will present their proposal of a turnaround of Merchant e to our Board. So we're still improving there. At this point, we have done the basics, which is efficiencies in terms of number of offices and headcount. The product portfolio is being worked on. But the final path for turnaround, the alternatives will be presented to our Board throughout the first quarter. As soon as we have finalized a strategic view for that asset, we'll let the market know.

[Operator]

Our next question comes from Jeff Cantwell, Guggenheim Securities.

[Jeffrey Cantwell, analyst]

Most of my questions have already been asked, but I have a question that's related to the increase you're seeing in your active merchant base, which is now 1.6 million versus the 1.3 million in the same quarter last year. So that looks pretty good to us. And we heard you talk now about some changes in your strategic focus using the hunters, which you outlined on Slide 10, and that also looks positive. So I guess, the key question is, will this strategic focus ultimately cause net income growth to rebound? And can you maybe talk to us about your thinking there? And then related to that, I also want to see if you could talk about the new merchants you're adding over the past 12 months? And how do they compare to your legacy merchants? Are they more profitable versus your legacy base, for example, or maybe expect to see less churn from these new merchants? Any color you can give us there would be great.

[Gustavo Henrique de Sousa, executive]

Jeff, let me just rewind your question a little bit. I -- your call was a little chopped. And I lost what you said before, rebound. The -- not the whole thing. The 10 seconds before rebound. Can you just contextualize that for me, please?

[Jeffrey Cantwell, analyst]

Yes. So the first is on thinking about your strategic focus, right, with your active merchant base and how that's increasing. And whether that can ultimately drive a rebound in net income growth for you in 2020 and maybe even if you want to talk about 2021? And then the second is thinking about the merchant base, the new adds, how they compare to your legacy merchants? Are they more -- do you think they're more profitable, right, versus your legacy base? Or maybe you're thinking that there will be less churn from those merchants? I'm just trying to look for some color on the net adds that you're seeing.

[Gustavo Henrique de Sousa, executive]

Perfect, Jeff, thank you for clarifying. So in terms of our client base expansion, net adds came heavily from expansion in SMBs. And most importantly, in micro entrepreneurs. So when we refer to micro entrepreneurs. It's a new segment. So those are new clients for us. I cannot draw a direct comparison from this portfolio in the past. This is a portfolio that was more heavily built in the year 2019. When we look at the SMBs that were added to our base, what we have seen on the SMBs portfolio as a whole was a stabilization in terms of churn. Up until the end of 2018, we had been experiencing increasing churn rates throughout 2019, we were able to stabilize that. So the new clients that were brought in, they came, they had this positive effect of stabilizing churn on the SMB segment.

That being said because we're talking about a 2019 with way more competitive prices, they have much lower profitability. We added clients with a different revenue yield. So not only we added new clients with a lower revenue yield, but the clients from the legacy portfolio were also repriced. With all of that and with a view that price pressure will remain in 2020, it's very hard to forecast when this rebound in terms of net income will happen. Our job here is to still work with the stabilization of Cielo's presence, mainly on the SMBs portfolio. But still, touching on some of the items that I discussed throughout the other questions, facing headwinds of price pressure, increasing variable costs because of brand fees and doing our best to become more efficient and to further increase our penetration of prepayments on the Retail portfolio on the SMB portfolio.

[Jeffrey Cantwell, analyst]

Okay. And then you got a couple of questions on your outlook for net revenue yields. And we can see that came down by 5 basis points this quarter. And you're highlighting pricing adjustments was a big driver of that. I guess, I just want to ask this in a slightly different way, which we're all trying to figure out directionally up or down, right? And I guess, the crux of my question is, what would be the 2 or 3 factors that would cause our net revenue yields to inflect positively for you guys? Is there anything that you're seeing or you can discuss with us that would give us a feel for a possible positive inflection over, call it, the next 12 to 18 months?

[Gustavo Henrique de Sousa, executive]

Got it. Got it. So one of them is a stabilization in terms of prices, which is not our base case scenario, that's not what we were seeing. But if prices were to stabilize, that would be positive for us. And the other one would be an inversion in terms of the participation of the segments. But that, in order for that to happen in 1 year, the SMB portfolio would have to grow way faster than the other portfolios, namely in the Large Accounts portfolio. So I'm talking about what would drive this inflection in terms of revenue yield. In terms of market conditions would be stabilization of prices and that's not our base case. And in terms of the mix of our products, a much stronger growth and/or deceleration in Large Accounts, but because Large Accounts are 2/3 of Cielo's volume, this change in mix takes some time. It's hard to see that in 1 year, okay?

[Paulo Caffarelli, executive]

And also a possibility to grow more in credits that maybe we are forecasting in order to grow the 2-day payment on a higher way that we expected. So this is also a driver for us that makes us have a potential to grow more, which is not the basic scenario, but it could be a good surprise.

[Operator]

Excuse me. This concludes today's question-and-answer session. I would like to invite Mr. Paulo Caffarelli to proceed with his closing remarks. Please go ahead, sir.

[Paulo Caffarelli, executive]

Thank you all of you for the participation. If you have any doubt, please do not hesitate to contact with us, okay? Thank you so much. See you soon. Bye-bye.

[Operator]

That does conclude Cielo conference call for today. Thank you very much for your participation. Have a nice day.