Kruk SA

WSE:KRU

Earnings Call Transcript 2022-Q1

[Operator]

Hello and a warm welcome to today's KRUK First Quarter 2022 Results Conference Call. My name is Emma, and I'll be coordinating the call today. [Operator Instructions]

It's now my pleasure to hand today's call over to Martin Wasilewska to begin. Please go ahead.

[Marta Jezewska-Wasilewska, analyst]

Good morning, and good afternoon, everybody. My name is Marta Jezewska-Wasilewska. I work at Wood & Company that hosted this call. Welcome, everybody. And now without any further delay, let me hand over the floor to Michal Zasepa, CFO of KRUK. Michal, floor is yours.

[Michal Zasepa, executive]

Marta, thank you very much. Good afternoon or good morning, everyone. Thank you for joining this call. It is my pleasure to present you the results of the first quarter of 2022. I will be using the presentation that is available on our website. I'll be telling you which slide I'm at.

This is a very good start of 2022. We are above by a few dozens of millions zloty on net profit versus our budget. This PLN 244 million comes as a positive surprise for us. Why is it a surprise despite high interest rates? Because recoveries are stronger. In March alone, our recoveries versus the operating plan, this ambitious target, which is significantly higher than the estimated remaining recovery, which represents our accounting curve, was PLN 30 million higher. The reality, it was PLN 30 million higher in 1 month of March, which was excellent than what we planned a few months before as a target for our operations. So that shows you that this is a big number. And it is quite optimistic for me for 2022 when I look at the high interest rate in Poland. I know we will pay PLN 40 million, maybe even more, in the financial costs above what we assumed in the business plan. But I see that there is an upside coming from better-than-expected recoveries on purchased debt.

At this point, I can tell you, we see no negative effect of any market changes, increasing energy prices, interest rates increases in Central and Eastern Europe on our recoveries. Actually, the reverse is true. So far, we are wondering why the recoveries are so strong in the first 3 months of this year. But also in April, this is looking quite positive.

As a result of these recoveries and this excellent performance on the -- of the back book, you see a very strong cash EBITDA and you see a business which yields 28% of return on equity, one of the highest among our competitors, maybe the highest among the big purchasers in Europe, while we remain one of the lowest leveraged companies. So it's even more difficult to achieve that level of return on equity. Yet we're definitely not the highest valued company in the market. So I think there is some disconnect between our results, our profitability, also good prospects for this year in our share prices. But this is, of course, my opinion.

On the new business investments, we made PLN 262 million of that purchasing, which is right on target. And we realized our expectations, and we see a very nice pipeline of portfolios in Q2. And we expect that this promise, from now on, KRUK will be able to -- our expectation to invest at least PLN 1.5 billion a year, it looks quite realistic this year. Of course, at this point, it's still early on. But the pipeline is strong and Q2 is looking exciting in terms of opportunities to buy portfolios.

I'm also happy to report that we just paid the dividend, higher dividend in the history of KRUK, PLN 13 per share. If you are a shareholder, you should have it on your account. I got my money yesterday. And again, KRUK is showing that we are able to continue to grow and at the same time, pay a dividend. And it's not a small dividend, it's 35% of last year's profits.

We are in a situation where 3 countries of KRUK Group are the border countries with Ukraine. We are very much, of course, alarmed by the situation, full of sympathy towards Ukraine and refugees. We are actively supporting Ukrainian refugees coming to Poland, Romania, Czech Republic and Slovakia. We earmarked PLN 1.5 million for such help. We spent some of that. Yesterday or the day before -- the day before yesterday, Piotr Krupa, our CEO, was awarded, I'm not sure what it was, a statue from the Minister of Ukraine in Poland for helping to build Ukrainian house in Boryslav, where our headquarters is hosting, as far as I know, over 100 young Ukrainian children, young people, who were left in Poland for some reason.

There were people -- soccer players coming to -- for soccer competition in Boryslav were [indiscernible] young children from some orphanage that they were evacuated and brought on. Different stories, all of them -- our reality is full of them. Over 100 people there. We created shelter and we are very proud of that. We are also encouraging KRUK employees to volunteer in helping refugees in the places where we work. So we try to be active on this front.

On the other hand, we see no direct impact of this conflict on our business, fortunately, and that's not something that today we are afraid of. Of course, we made some contingency plans, especially for hacker attacks for -- on our IT infrastructure. We think what it would mean if we don't divert the war and the war also involved maybe some Polish -- Poland territory. This is, I hope, only hypothetically, but we will have backup plans for such situation as well.

On Slide 7 is something which now is a theme we try to put it in communication to you, dear shareholders, that we are very actively pursuing technological transformation, becoming a company where our collection process is more and more in the online world, where our clients communicate to us through the systems that we make available to them, make payments electronically. And this is a trend following the behavior of our customers. And this is a very good trend because, so far, we observed that if we really are good at communicating with people and conducting our process through electronic platforms, our success rates, collection rates do not drop. Sometimes they even increase. Maybe because it's easier for the people to pay. Maybe because they feel more confident in their decisions. And our costs of that process are a fraction of the cost of people.

So it's a clear direction that is benefiting the business and also offering possibly a better service for the clients. So it's a win-win situation. And we put a lot of efforts internally to go in that direction.

Second area of technological development is making better decisions based on statistics, based on machine learning and artificial intelligence algorithms that we are building and that will help us to decide when to call, what to tell the people, which case to concentrate on, which to defer, when to go to court, when not to do anything and spend cost.

Of course, we have those mechanisms, but we can work on improving them. And the more data we have, the more experience we have, the better these algorithms are. And I'm happy to tell you that KRUK is in a business that is a very fertile ground for technological development, both in terms of interface of the collection process but also this algorithm -- decision-making algorithms. Why? Because we deal with millions of people in repetitive processes. So statistics, all this new technology is something that we could use, only we need to have stable environment and a lot of data and the results will come.

So it's an exciting area. We beef up our competence in this area from the top to down to the individual developer. On our Board, we have a person responsible for IT and data science. We are recruiting also senior managers. We are recruiting developers across all the 6 countries where we are. Our IT and analytical -- the number of IT people and analysts participations in KRUK today is possibly far higher than the number of call center agents or field advisers.

So it's also a change of the paradigm, the change of the business model. We become more of a tech company slowly year after year than a collection company, which means we employ that many collectors. And this is our main area of expertise.

So at some point in the future, you will see that KRUK, the standard KRUK collection process toward individuals will be done by machines, will be done without much interaction from humans. And it will be the exceptions, the high tickets, the difficult cases that will require no human attention and processing.

So our COO, Piotr Kowalski, says in this business model that we have, we buy portfolio, we pay, say, PLN 1 billion. And our goal is to recover PLN 2 billion. The third billion will be recovered at the click of the button. The machine will go contact people, enable them payment terms, watch, monitor, remind and we'll get the first billion. The second billion, we will need to actively pursue it because it will be difficult -- more difficult cases, some exceptions that could not be coded so easily in our IT and decision-making infrastructure.

And this is the future, and we are way -- on the way to the future. What it offers? Higher profits, better cost effectiveness, higher value of the company. Of course, we're not the only company doing that, but we are now fully concentrated on that and quite excited about it. So maybe we are uncovering another area where we could have some competitive advantage.

If you look on Slide #9, this is results of the segments. We're happy with the level of investments for the first quarter. You see here, it's significantly higher than last year in first quarter. We're very happy with Italian and Romanian investments, where most of these investments came. We're not worried at all about Spain and Poland because supply was very low in first quarter. And we know supply is much higher in second quarter. And further during the year, we expect a lot of portfolios in Poland and Spain as well.

Recoveries were excellent in Poland. They beat our higher expectations with significant over surplus. In Romania, they were right on the very ambitious plan. In Italy, they were above our expectations somewhat. In Spain, on the retail portfolios that were below in January and February, possibly due to our too high expectations and some imperfections in planning, but they were right on the target in March.

But on the corporate portfolios, where we suffered over the past couple of years, we had a few million zloty less and we expect to have also less recoveries in 2022. And we had a small negative revaluation there of PLN 4 million. And that's the reason why, in this quarter, the EBITDA is negative.

I think this is a temporary problem, and it's not a strategic issue for the company. I think the retail business is solid. The scale needs to grow from this PLN 300-something million on the balance sheet of the unsecured portfolios in Spain. And these results will improve in the following quarters. And very good results in other markets in terms of recoveries, in Czech Republic, Slovakia and German assets.

You can see EBITDA, also a nice growth versus last year. First quarter is super strong performance in Poland, super strong performance in Romania. Very decent growth in Italy, PLN 37 million and that makes most of the results.

If you look at Slide 10, Poland, excellent recoveries, as I said. Expenditures, wait for second quarter, third quarter and fourth quarter, there will be much more. Very good trend of recoveries and a positive revaluation of PLN 40 million. Good profitability of 35% of the portfolio. So the business is very good in Poland. We're happy with the investments we made, the large investments we made in Poland in 2021.

Competition is strong, but let's see what it will be when more portfolios come in Q1. As I said, the supply was limited as expected because in Q4 of last year, the supply was very strong.

In Romania, look at the investment level, PLN 100 million. That's significantly more than last year. In total, 2021, we invested, if I remember correctly -- you have that number here. That's [indiscernible]. So the start of the year is excellent.

Recoveries are very good. The trend is so strong that we felt very comfortable, recognizing a significant increase in the forecast. And you see the revaluation of close to PLN 19 million. And this is as planned and the business is going so well that we need to continue to raise our accounting partners to catch up with this reality and it's quite likely with higher recoveries in the next couple of quarters. And very high profitability, as you see here on, EBITDA and profitability of 50%.

Italy, also very good results. We're very happy with this PLN 150 million close to investments. And this is one big investment in corporate unsecured and a few smaller in unsecured. Now we are targeting unsecured in the next couple of quarters. Recoveries were a little bit above our high operating target. The value of the business is now at PLN 1.5 billion worth of the balance sheet.

Yet again, we were able to have some revision -- positive revision of the forecast of recoveries you see another 12% of positive revaluation, which is a sign of strength and health of the business. Decent profitability of 32% look much higher than in Q1 2021. So always good in Italy. And we are on the path to continue to increase profitability.

Spain is relatively -- showed a relatively weaker result. But as I said, it's not a fundamental problem. It is a somewhat weaker performance for corporate portfolios, which are limited in scale. They represent about 20% of the total book of portfolios we have in Spain. So we now think that the other quarters will be better for Spain.

But the fact is state of the business in Spain is too small for us to see much growth in profitability. So we look forward to increasing our investments in Spain, especially that recent investments, I mean recent for the past 2 years in portfolios in Spain are performing very well. So we had good ground and good analysis to back the future investments. And please, keep fingers crossed for new business. In Spain, we are in a few very promising options. So hopefully, we will be able to report to you that we were successful in buying new portfolios this year. And that will increase the value of the business and also might improve profitability of the whole business in Spain.

Czech Republic, Slovakia and German assets, little supply, little investment, very good recoveries, relatively small positive revaluation but even without it, a very good profitability of 45%, 46%.

Other businesses. This is mostly our lending businesses, Wonga and Novum. The performance in Q1 is very good. But we are ahead of an important and negative change in the legislation in Poland. And the Polish Parliament is likely to pass a law, anti-usury law that will limit the noninterest cost of credit in Poland quite dramatically. That will affect negatively all the financial sectors, but especially the nonbanking lenders.

Good information is both companies have a plan how to deal with this changed environment, that they will do some modification in their product. It's a significant transformation of the business model. We are working on the business plans for both the businesses now. And it's fair to say we have a plan or a plan that we will develop in the next few weeks.

We had a good idea of what we want to do. But it takes a lot of uncertainty about what will be the market like, what competitive situation would it be like, what clients -- how will clients react for this changed situation and how much business there will be for Wonga and Novum.

Today, I'm relatively optimistic. But I want to tell you openly, listen, if this law comes in, we need to watch carefully what's happening, how the client and competitive behavior changes our situation, then we'll need to react.

So today, I think we have at least a year of observation because this new law likely will enter -- will be passed in the next couple of weeks but will be enforced maybe in July, maybe sometime later. The new product that we'll launch will probably -- they still need IT development. They will be launched only in about -- at the beginning of 2023. So we will have a few quarters of this uncertainty to be able to say, okay, we're on good track in both businesses. And we grow those businesses and they are comfortable enough for us to continue.

I think we have one of the best managerial team. So if there is a market lending for nonbanking institution in Poland, we will be there and we will be successful. If the market is not attractive, then we will need to think what to do with that.

Now if you look at the slide with financial results, Slide #17, you see here the performance, the quarterly performance. An important element of Q1 results was positive revaluation, PLN 135 million. I will comment in more detail on that item in a second.

If you look at the balance sheet at Slide #20, you see our leverage is -- continues to be quite low, 0.9 net debt to equity. We're happy to increase it. All we need is good investment projects. And hopefully, we will have place for at least PLN 1.5 billion of investment this year.

Now we added for this presentation 2 slides. This is Slide 21 and 22, which is an attempt to remind our shareholders or an analyst how important and systemic the revision of forecast, correction of forecast is to our business model. And what are the reasons for that? Why do we do that? Well, because sometimes people forget or sometimes people still need to read that and think that change of the forecast is something extra that happens. Maybe it's a one-off that should be treated differently.

The point I'm making here in this slide is, please remember, the revenue of KRUK will always and only be the excess of recoveries above the purchase price. And the revaluation and so called deviation from actual revenues are just our metric to methods that we need to use in order to match the actual cash flow with the planned cash flow. If we wouldn't have this, then this calculation of the revenue will be wrong.

The reason why KRUK has a long history of positive changes is that we earn much more money, we recover much more cash than we initially assumed in the investment plan in the cash flow that was the base for accounting when we bought this portfolio. And this is the reason.

And why do we recover more? It's another question you may ask. I'm trying to answer that in this slide also here. It's one of the bullets. And the fact is, well, because we improved effectiveness. We extend the length of the collection process. We discovered that portfolios perform and pay us money not only for 5, 10, 15 years but also later. And also possibly because people have more money today than we were buying these portfolios 5 -- 3, 7, 10, 15 years ago.

Secondly, we are using a professional cautious judgment when things go worse than planned, we write portfolios down. When things are better than planned, we wait and we acknowledge this in time partially in order not to risk that we would be too optimistic too soon in our accounting plans, which we feel we should really avoid situation where based -- where our judgments were wrong. We prefer to be too cautious than too optimistic because if we are too optimistic, then in situations where there is an additional negative shock, you will see that our results are very unpredictable and one quarter are very high and another quarter, you have losses. We don't want to do it. We don't think that's -- we think it would be unprofessional and irresponsible.

If you -- on Slide 22, you have a detailed view on how these deviations and revaluations looked quarterly. You can see a pattern. When business is as normal, you see significant amount of more money coming to our pockets than the plan. And we are in process of increasing this accounting forecast.

Most of that change in the forecast, as also we pointed out in one of the bullets point here pertain the next 2 years of the valuation process. So it's also skewed towards the midterm, short-term, although the potential long term for the upside of 10 15, 20 years. Here, we say 70% of the revaluation in Q1 is about the change of the forecast in the next 2 years.

Please, if you are interested in that, if you ever had doubt about it, read this material, if something isn't clear, reach back to IR, to me, we'll be very happy to explain to you why this is a systemic element of our revenue. And you should expect that if business goes on as usual, you always get some positive deviation and some positive revaluation in the business.

One thing that Piotr Krupa said to Polish investor is like, listen, look at our ERC, that's on Slide 23, PLN 10.3 billion. Our operating target is set a few billion higher than that in the horizon for the next 20 years. This is our target. Our business people, our managers know this is what they want, too. This is what we need to achieve. Of course, it's uncertain. We don't know what law will be. We don't know what economy will be like in 10 years, in 20 years. And our forecasts are 20, even 25 years from now.

On the other hand, Piotr Krupa said today, listen, but the debt we owe is not PLN 10 billion. It's not PLN 15 billion. It's PLN 80 billion. And we are saying, well, PLN 70 billion or PLN 60-something billion is worth completely easier. And the name of the game is how can we tap a portion of this remaining legal rights that we own? How can we talk to these people? How we can contact them? How we can be more persuasive? How differently that we have at disposal professional and fully legal, we can recover more? And this is something that technology, innovation but also improving economy, of course, is going to help us.

So in that business, we have a natural upside to which we try to crystallize to realize. And the history of KRUK for the past 20 years is getting a portion of that upside. I mean because of that, you see the history of a very long and quite significant positive revaluation as our accounting catches up with these more confirmed plans and in reality.

In terms of funding, Slide 24, we are good. We are quite successful this year in extending or prolonging our agreements with the bank funding. You see here over PLN 1.100 billion available to be drawn. We made successful issues of bonds of PLN 400 million this year.

The bond market in Poland is not too good now. Investors lost their money on Polish bonds because of the state treasury bonds, because of interest rate changes. So it's not probably the best time to go into the market. But I think the market will improve in a few months. And if we need to, we can also [indiscernible] the Polish bond market this year. So we are ready to continue to increase our purchase this year.

Also, please take a look at Slide 26, at how -- what do we do in terms of our social responsibility, environment responsibility. We do much more than we were doing a few years ago. We want to be part of greater good in the society. And our management, our employees are quite active in several initiatives, you can see described on 26.

Thank you for listening to this update and commentary to results. And I'll be very happy to answer your questions now.

[Operator]

[Operator Instructions]

[Marta Jezewska-Wasilewska, analyst]

While we are asking -- waiting for the first question, maybe I can have one on the Romania situation in the first quarter, if I may?

[Michal Zasepa, executive]

Sure.

[Marta Jezewska-Wasilewska, analyst]

Let me just ask you because you said recoveries in Romania grew only 3% year-on-year. So it was clearly not that great dynamic in comparison to the blended group. At the same time, Romania was the single star among the biggest star of positive revaluation. And you've also added that Romania saw some positive deviations in repayments. Can you just comment on the -- like why you saw such big revaluation in light of the fact that you had only 3% growth of recoveries? Was it driven by a new portfolio being purchased? Or have you had just simply too low recovery curves on the old back book? Like can we just understand it a bit better?

[Michal Zasepa, executive]

Sure. Can you hear me, Marta? I'm not sure if I'm heard.

[Marta Jezewska-Wasilewska, analyst]

Loud and clear.

[Michal Zasepa, executive]

Okay. Very good. So the reason is the difference between the accounting curve assumptions and the reality that we are seeing approaching. In Romania, this accounting curve, even though we raised it historically, is going down very deeply in the next quarters and years. And you can -- okay, you probably don't have this accounting for Romania only, but you need to believe my word. So even though the recovery did not grow quarter-to-quarter, they still were in Romania, these recoveries were, what, PLN 145 million, let me give the report I have.

Okay, to give you an example, in Romania, retail in -- we had a plan to have 30-something in accounting of recoveries. Indeed we have 45. And so we are realizing significantly higher recoveries. But on the other hand, we see the assumptions for the next, say, 2, 3 years of mentioned, no longer future, where these recoveries are falling quite steeply.

So what we're doing is we say, okay, there's no way these recoveries will be making up a number 20 in the next -- in the 2 quarters if they were 45 in the previous -- in this quarter. So we need to increase this curve somewhat. And we continue to do it quarter-by-quarter for many quarters now. But these recoveries do not go down as quickly. So you have a situation where we bought these portfolios on the assumptions that they will be -- say, the recoveries will be dying off much quicker and they lasted much more. And we are catching up with these assumptions from the accounting curve to this reality we are observing.

On the distance, it's still quite far. What we're doing with the revaluation is we're mostly increasing the curve on this next 2, 3 years. But then, it's a future of the next 5, 7, 8 years and the difference is even larger. So we will need to continue not most likely to positively revalue this asset, even though the recoveries from the back book may not grow because the back book has a curve. If you have the back book that is more than 1.5 years old, the back book goes down. This evaluation is done on a vast majority of the portfolios. So it's not a single portfolio. It's not a single vintage year of investments. It's majority of the portfolios we bought over the past several years in Romania.

[Operator]

[Operator Instructions] At this time, we have no questions. So I'll hand the call back to Michal.

[Michal Zasepa, executive]

Thank you very much for participating in this conference call. And I invite you for meetings with me in Prague, where we are going in June. And I wish you good health and hope to see you in person, some of you at least, this year. Thank you very much.

[Operator]

This concludes today's KRUK's First Quarter 2022 Results Conference Call. You may now disconnect your lines. Enjoy the rest of your day.