Arco Platform Limited (ARCE) on Q4 2021 Results - Earnings Call Transcript
Operator: Good afternoon, everyone. Thank you for standing by, and welcome to Arco Platform Fourth Quarter and Full Year 2021 Earnings Call. This event is being recorded. This event is also being broadcast live via webcast and may be accessed through Arco's website at https://investor.arcoplatform.com, where the presentation is also available. Now I will turn the conference over to Carina Carreira, Arco's IR Director. Carina, you may begin your presentation.
Carina Carreira: Thank you. I'm pleased to welcome you to Arco's Fourth Quarter and Full Year 2021 Conference Call. With me on the call today, we have Arco's CEO, Ari de Sá Cavalcante Neto; and Arco's CFO, Roberto Otero. During today's presentation, our executives will make forward-looking statements. Forward-looking statements generally relate to future events or future financial or operating performance and involve known and unknown risks, uncertainties and other factors that may cause our actual results to differ materially from those contemplated by these forward-looking statements. Forward-looking statements in this presentation include, but are not limited to, statements related to our business and financial performance, our expectations and guidance for future periods, our expectations regarding strategic product initiatives and their related benefits and our expectations regarding the market. These risks include those set forth in the documents that we issued earlier today as well as those more fully described in our filings with the Securities and Exchange Commission. The forward-looking statements in this presentation are based on the information available to us as of the day hereof. You should not rely on them as prediction of future events, and we disclaim any obligation to update any forward-looking statements, except as required by law. In addition, management may reference non-IFRS financial measures on this call. The non-IFRS financial measures are not intended to be considered in isolation or as a substitute for results prepared in accordance with IFRS. We have provided a reconciliation of these non-IFRS financial measures to the most directly comparable IFRS financial measure in our press release. Please note that, except from revenue, gross margin, selling expense, G&A and cash flow from operations, all other financial measures we discuss here are non-IFRS, and growth rates are compared to the prior year comparable period, unless otherwise stated. We also note that year-over-year comparisons are affected by acquisitions that were not included in our 2020 financials. Let me now turn the call over to Ari, Arco's CEO.
Ari de Sa Cavalcante Neto: Thank you, Carina, and thanks, everyone, for joining today's conference call. We hope that you and your families are all healthy and safe. We'd like to present 3 topics today. First, on the results, we had a very strong top line growth in the fourth quarter of 55% year-over-year to BRL460.8 million as a result of the extremely successful 2022 commercial cycle, leading to net revenues of BRL1.2 billion in 2021. Adjusted EBITDA margin was 48.7% in the fourth quarter of '21. Despite the challenges, 2021 margin, excluding M&A concluded in 2021, was 36% for the year, within the guidance range of 35.5% and 37.5%. This is a very important achievement considering the impacts from the COVID-19 pandemic in our revenue recognition during the year. Second, we concluded the 2022 commercial cycle. And as schools return to in-person classes and restrictions related to the COVID-19 pandemic are gradually lifted, we are resuming our growth trajectory. 2022 ACV was BRL1.56 billion, representing a strong 46% growth year-over-year and a 32% organic growth year-over-year. These numbers come above the guidance initially provided to the market back in November. This strong ACV is a combination of healthy retention rates and price increase added to a sound organic growth for both our core and supplemental solutions, powered by the successful cross-sell initiatives. We expect to continue to do so as our key differentiating factors gain further relevance, and we want to consolidate our leadership position and strengthen our value proposition. Finally, we conclude this presentation detailing our 3 priorities for 2022, strong growth, efficiency and cash generation and ESG. I will now turn the call to Otero to discuss the results for the quarter. Otero, please go ahead.
Roberto Otero: Thank you, Ari, and good evening, everyone. Thank you for your time, and I also hope that you and relatives are all safe and healthy. Moving now to Slide 5. Net revenues for the fourth quarter of 2021 were BRL460.8 million, a 55% increase year-over-year and representing a 29.5% revenue recognition of the 2022 ACV, which we will detail a few slides ahead. Net revenues for 2021 reached BRL1.232 billion, a 23% growth versus 2020 or 18% organic growth when excluding the M&As announced last year. Organic growth of our cost of sales in 2021 was in line with organic top line growth, while selling expenses outpaced top line with a 30% year-over-year organic growth, aligned with our strategy to invest in go-to-market and customer support to boost future growth. And G&A expenses had an important dilution, growing organically only 10% year-over-year. As a result, adjusted EBITDA was BRL224.4 million in the fourth quarter, 78% above the fourth quarter in 2020 and BRL430.9 million in 2021, 13% higher than 2020. When excluding the M&As concluded in 2021, adjusted EBITDA was 12% higher year-over-year, with a margin of 36%, within the guidance range we provided for the year. On Slide 6, we present the adjusted net income, which contracted 32% year-over-year in 2021 due to the lower revenue recognition observed in the 9 months and higher financial expenses. We also wanted to highlight that we are reducing the number of adjustments to our adjusted net income metric as part of our commitment to evolve and improve corporate governance and disclosure. We eliminated 3 adjustments that we believe did not prevent investors to assess Arco's operational results. Interest on acquisition of investments linked to our fixed rate, foreign exchange on cash and cash equivalents and share of loss of equity accounted investees. Moving to Slide 8. We are excited with the results of our 2022 commercial cycle. With schools resuming in-person classes and students returning to the classroom, we reaccelerate growth. Our ACV bookings reached BRL1.560 billion, above the previously guided range, representing a strong 46% year-over-year growth or 32% organic growth when excluding assets acquired from Pearson last year. The core segment grew 32% organically year-over-year to an ACV of BRL1.109 billion and over 1.6 million students. Our supplemental content solutions comprised in 2021 of international school and PS in English as a second language, it's called Inteligência and Pleno, a social-emotional learning and Nave grew by 35% organically to an ACV of BRL275 million and over 660,000 students, an important acceleration largely attributed to our successful cross-selling initiatives, which were key to the 80% increase in the number of our core schools using at least 1 supplemental solution. Finally, we are breaking down other supplemental solutions comprised of our tech and services brands. WPensar, Escola em Movimento, Studos and Eduqo as well as our B2C solution Me Salva! And our Education as a benefit solution, Edupass, which grew 38% organically year-over-year. On Slide 9, we detail the buildup of our 2022 ACV bookings. Our growth has always relied on our ability to retain our clients, improve our value proposition, driving price increases, up-sell our solutions within our partner schools and attract new partner schools. This year was not different. Even in such a challenging year, we were able to deliver a retention rate stable when compared to the previous cycles at 93%, including both core and supplemental, while adjusting prices on average by 6%. I'll now turn the call back to Ari. Ari, please go ahead.
Ari de Sa Cavalcante Neto: Thank you, Otero. On Slide 11, we present our 4 main priorities for 2022. First priority is about using the power of our platform to continue to boost growth. We reinforced on Slide 13 the relevance of delivering a superior value proposition to our customers. In 2021, we increased our Net Promoter Score among core partner schools to 84 as we continue to improve the solutions and to support our partner schools. We also saw an important improvement in the academic results of our students, with students admitted in first place in public universities through the exam, growing 27% year-over-year. Students admitted in the top 10 growing 17% and total students admitted growing 27%. Moving to Slide 14. As Arco consolidates its leading position, cross-sell becomes a central piece in our growth strategy. And we had important learnings and major achievements in our first year of cross-selling initiatives. First, we saw a substantially higher lead conversion when the new solutions is introduced by an Arco farmer with a pre-existing relationship. It was almost 7x the conversion rate without cross-sell. Second, we had lower churn among core partner schools once they adopted other solutions from Arco. It was half of the churn of the schools without other solutions. And third, it is very clear to us that schools have space to adopt more than 1 supplemental solution, and we continue to see an increase of case of schools with 2 or 3 supplemental solutions in our school base. On Slide 15, we present an analysis of the potential increase in our ACV inside our school base with our existing students through cross-sell initiatives. When we consider the migration of students in our base that use only 1 supplemental solution or that use only a core solution or that use a core and only 1 supplemental solution to the format of a core solution plus 2 supplemental solutions, we see the potential to add BRL1.8 billion in ACV or more than double our current ACV. In other words, we have a large potential to increase the ARPU, or average revenue per user of our student base by cross-selling additional solutions to that specific student. Our second priority is about integrating our structure to unlock efficiencies and benefits of scale. On Slide 17, we present our efficiency road map. We have concluded the corporate reorganization in 2021 with the creation of the core reps, Arco Plus, Arco Tech and Services business unit. We are now working on supply chain and technology initiatives. Moving to Slide 18. The supply chain integration is already on track and presenting positive results. In 2021, we have integrated our printing efforts, decreased the number of logistics suppliers and built a unique supplier-chain culture, leading to a 10% reduction in the operations cost per student and almost double the days payable outstanding. For 2022, we plan on unifying our supply teams according to business verticals, create a performance team and create the planning service and production functional verticals. On Slide 19, we present our technology integration plan, which will be made gradually over the next 2 to 3 years and should reduce complexity, increase agility and improve our user experience. On the education technology front, we plan on reducing to 1 assessment platform, 1 boarding sign-on and 5 content structures. On the IT optimization front, we should evolve to 8 IT systems from the existing 23. Our third priority is about improving cash generation to strengthen our balance sheet and allow for future investments. On Slide 21, we present the main pillars that will lead us to a healthy cash generation in 2022. We will focus on improving our cash cycle with the return of days receivable and inventories to historic levels and further improvement on payable days. We will continue to incorporate the recently acquired business, leading to lower effective tax rate. And we will optimize our CapEx, which we expect to be 10% to 12% of revenues in 2022. Finally, our fourth priority is about continuing to expand disclosure on ESG initiatives and increase our impact. We are releasing today our 2021 ESG report, where we detail our 2025 goals, listing our projects to achieve these goals and update the main metrics in our 3 material pillars. For 2022, our focus will be on measuring the evolution in learning at our partner schools and increasing the number of students learning 21st century skills, reduce turnover increase the employees' NPS and strengthening our diversity programs, and mapping our paper life cycle and starting to measure our carbon emissions. We know we have an important and critical role in our society, and we are committed to continue impacting lives through education of high quality. And to end this call, I would like to thank Arco's team for their resiliency, effort, talent and exceptional deliveries in such a challenging year. We are extremely excited with the outlook ahead of us. Thank you very much for your trust and time. Operator, we can now open for questions.
Operator: . Our first question comes from Vinicius Figueiredo, Itaú BBA.
Vinicius Figueiredo: My first question is regarding ACV. You've shown on Slide 9 that the churn rate stood at 7% this year. Could you please provide how this rate performed historically? Just to understand how it has been like and if this number is in accordance to last year's? If yes, how could you increase the retention rate going forward? And the second question is regarding ACV break. One of your competitors mentioned that it's fair to assume ACV break very close to 0 this year. Is it fair to assume that for Arco, too?
Roberto Otero: Thank you for the questions. The first one on churn. Yes, the 7% is pretty much in line with the historical figures that we have posted or that our brand has posted over time. And to your point on how we can improve this rate, this is pretty much by improving the brand that still post retention rates below the most mature ones. So for example, we acquired Positivo pretty much 2 years ago with a retention rate of 86%. This year, Positivo's retention rate was 94%, right? So I mean, it takes a little bit of time, right? But we definitely improved the retention rate of the brands that we acquired. And don't forget that inside this churn there are the supplemental brands as well, which we are doing this retention turnaround, okay? So improving pretty much, it's going to reflect the mix, also brand maturing at the investment product, technology and the go-to-market strategy. To the other point on the conversion of ACV in Q2 revenue, so I mean, this change in the ACV number is pretty much based on the actual number of students currently using our solutions and accessing the platform, okay? So the BRL1.5 billion is no longer a projection, okay? So this is based up until now, almost the month of April, on the number of actual students in this quarter reserves that are using the platform, okay? So this is what gives us confidence that we will not see a breakage of ACV into revenue at this point.
Operator: Our next question comes from Vitor Tomita, Goldman Sachs.
Vitor Tomita: Two questions from our side. The first one is on tickets. So given that acquisitions have added quite a few new price points and that the relatively high inflation levels we have been seeing in Brazil, could you give us some more color on the dynamics of average ticket growth for core solutions in this year's ACV bookings and on how you expect tickets to evolve going forward? This is our first question. And our second question would be on the supplemental tech solutions. So traditionally, Arco had mostly included technological or software features in the core solution bundles. But I understand that newer software solutions like WPensar and some of the acquisitions have been sold separately as supplemental offerings. From a strategic sense, how do you see this going forward? Do you expect most new technological solutions you acquire or develop to be included within core solution bundles to support tickets and retention? Or is the plan to grow these solutions as a separate revenue line via cross-selling and make them more relevant in the longer term as revenue sources by themselves?
Roberto Otero: Well, thank you, Vitor. It's Otero here. Thanks very much for the question. So the first one on price increase. As we show on the presentation, increased the average ticket by 6%. This is both for core and supplemental. For the core brands, even though we do not disclose the price increase separately, it was above that level, okay? Still, it was below the 10% inflation for 2021. And here, I will give you pretty much to 2 reasons, maybe 3. The first one is that we start building up our ACV for the next year very early in the prior year, okay? So when we go back to the first month of last year, the run rate of inflation was far away from 10%. So there's a lag effect as we build up ACV for the following year, especially in a year where inflation varies a lot along the year, okay? So this is the first one. The second one, there's a mix effect, okay, here. As you well pointed, nowadays, we have a very diverse portfolio in equally perspective price point. And yes, some very well-performing brand portfolio, also are the ones with lower average ticket. This does not mean that they outgrew, okay, the one with the highest average ticket. Actually, we saw a very homogenous performance across the portfolio, okay? But there is a mix effect here as well. And finally, because when we look at our cost inflation, okay, so Arco's cost inflation in 2021, given the profile of our cost and given all those supply chain efforts that we put in place, our cost inflation was far away from 10% as well, okay? So this is on pricing. On your second point about the new tech features, I think those 2 strategies, they do not conflict. I would say we use each of them in different ways. By selling separately those tech features, we start to build up relationship with new target schools, okay? As you know, I mean, our core product is a complex product, right, to an extent, to explain to start to meet some are afraid from exchange. And so using the tech features to roam inside the school and from that point, always expand is something that we have started to do, okay, since last year. But this is not prevented from selling them together with the core or the supplementals, okay? So basically, we have a twofold strategy here, and we think both work fine, okay?
Operator: Our next question comes from Marcelo Santos, JPMorgan.
Marcelo Santos: The first question is about the competitive environment. If you could discuss a bit how the competitive environment in core and supplemental markets. And the second question is if you could discuss on the incremental ACV you had on supplement, I think you had BRL71 million in incremental ACV from 2021 to 2022. How much of that roughly is sales to the current core clients and how much sales to clients that are new clients in a sense?
Ari de Sa Cavalcante Neto: Thank you, Marcelo. This is Ari. So talking about the competitive environment, what we've seen last year is pretty much similar to the environment that we've seen before. We still have a very fragmented market with many players, some larger, some smaller. But one thing that I saw -- that we saw was a little bit different in this last 2 years was especially the textbooks, the publishers, schools that were somehow were looking to use learning systems, they were much more willing to consider our solutions because of the need of technology and, of course, because of the value proposition, teachers training and platforms, the brand that we add to the school. So we saw textbooks losing share in the overall market. And the other thing, of course, since scale becomes more important and the investment in content, innovation and technology, demand to scale, what we've seen is that the smaller players had a harder time in order to invest in product evolution during the pandemic. But other than that, we would say that the competitive environment remains the same.
Roberto Otero: Sure. And Marcelo, Otero here. Glad to speak to you. So on the incremental sales, so I think your question is regarding more the cross-sell versus non-cross-sell, right? So I mean, when you look at the penetration of supplemental products in our base of core students, it went from 10% penetration in 2021, which means 10% of our base, of course, to be using at least 1 supplemental solution to 15% in 2022. However, the base, of course, did also grew substantially, right? So I mean, the cross-selling strategy proved to be quite effective. And we show on the presentation, i think, on Slide 14, the metrics, I think are worth reminding here on the call. The first one is that, I mean, the lead conversion when we do cross-sell is 6x faster than one who do not cross-sell for supplemental solutions. The second one is that when we analyze the churn of the schools where we had cross-sell, the churn is half the one where we do not have cross sell, okay? So the 2 things, I mean, the more we do cross-sell probably the lower it's going to be our churn in the future, okay? And the third one is also quite important, which helps us build the argument that I mean there is affordability inside the schools, we show that in the number of schools using 2 or 3 supplemental solutions. Okay. It's been just 1 year of cross-sell we're still learning how to do it. And something needs to share here is that during this year onwards, we will start to do reverse cross-sell. So pretty much, we're going to start to do cross-sell from supplemental students to use core. So today, we have pretty much 3 -- almost 400,000 supplemental students that do not use our core solution yet, okay? And for 2023, we are creating incentives, training, appropriate process to do this cross-sell in a reverse way.
Marcelo Santos: Just to understand the last point because the first one is lease conversion 6x faster, churn 50% lower. And the last point is that you're going to start doing reverse cross-sell this year. That's it, just to be sure I got everything.
Roberto Otero: Yes. Actually, the third one was the number of schools using 2 or 3 supplemental solutions on top of the core product, okay? And the fourth one is the reverse cross-sell. So pretty much selling the core product to 400,000 students that today only use 1 supplemental and do not use our core learning system yet.
Operator: Our next question comes from Vinicius Ribeiro, UBS.
Vinicius Ribeiro: Two follow-ups on things you have already addressed. So first, on the price increases, I'm not sure I understood it correctly. But going forward, assuming we have 12 months of double-digit inflation which we're likely to see here in Brazil, should we expect you guys to maintain the spread over inflation on price increases? Or under that circumstances, things get different from some perspective? And the second question, going to the cross-selling analysis you guys provided in the slide and you addressed that in the previous question. But you guys have a significant number of schools that have more than 1 supplemental solutions? And what do you see as the main hurdle for schools that want to adhere to such additional solutions, meaning the 2 or 3 as you guys provided in the slide?
Roberto Otero: Sure. Thank for the question. So on your first one, in our goals for next year, it is implied a real price increase, okay? So our goals for price increase for 2023 are above 6%, definitely, okay? Even though, according to market looks like inflation next year is going to be below 6%. Who knows? But I mean, our goals for price increase next year are much closer to high single digit than 6%, okay? And to your second point, I mean, I would say, yes, today, we have a relevant portion of schools using 1 core plus 2 supplemental solutions. We see a number of 100s, okay? So it is a relevant number. But we also remind that, I mean, cross-selling something . So I think it's more about facing a pushback in school. I think it's more about an execution and doing this strategy in practice, okay? On these schools use 2 supplementals, I mean, usually, what we see is 1 bilingual product, okay, plus 1 social-emotional or major product. So this is pretty much the standard that we are seeing on those schools, okay? And I mean, the option that you gain in these schools is phenomenal. I mean, so at the end of the day, not only the acquisition cost of this on student is lower. But I mean when you think about the lifetime value of this contract over time, it's higher. So it allows us to work with bundles and be competitive to penetrate those schools with more supplemental products.
Operator: Our next question comes from Javier Martinez, Morgan Stanley. Mr, Javier, you may go ahead.
Operator: At this time, we have no further questions in the queue. That concludes Arco's fourth quarter and full year 2021 earnings call. Thank you very much for your participation, and have a nice day. You may now disconnect.
