Noah Holdings Ltd (NOAH) 2011 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Noah Holdings Limited second quarter 2011 results conference call. At this time, all participants are in a listen-only mode.

Following management's prepared remarks, there will be a Q&A session. During the Q&A session, we ask that you please limit yourself to two questions and one follow up so that we may have further participation. If you would like to ask further questions, you may re-enter the queue to do so. As a reminder, this conference is being recorded.

Joining the conference today are Ms. Jingbo Wang, co-Founder, Chairwoman, and CEO; and Mr. Tom Wu, CFO.

After the close of the US market on Monday, Noah issued a press release announcing its second quarter 2011 financial results, which is available on the Company's IR webpage at ir.noahwm.com.

This call is also being webcast live and will be available for replay purposes on the Company's website.

I would like to call your attention to the Safe Harbor Statement in connection with today's call. The Company will make forward-looking statements, including those with respect to expected future operating results and expansion of its business. Please refer to the risk factors inherent in the Company's business and that have been filed with the SEC.

Actual results can be materially different from any forward-looking statements the Company makes today. Noah Holdings Limited does not undertake any obligation to update any forward-looking statement as a result of new information, further events or otherwise, except as required under applicable law.

The results announced today are unaudited and subject to adjustment in connection with the completion of the Company's audit.

Additionally, certain non-GAAP measures will be used in our financial results. A reconciliation of GAAP and non-GAAP financial results can be found in the earnings press release posted on the Company's website.

I would now like to turn the call over to Ms. Wang, CEO. Ms. Wang will be speaking in Chinese and Mr. Shang Chuang, the Company's IR Director, will translate her statement into English.

(interpreted) Thank you, operator. And thank you all for joining us today. With me today is Tom Wu, our Chief Financial Officer. I will begin by updating you on our 2011 first half strategic priorities and key challenges, then Tom will discuss our detailed second quarter financial and operating results. We will be happy to take your questions after that.

Overall, we are very pleased with our second quarter performance. And despite a challenging macro environment, inflation, and government policy uncertainty, we achieved strong results. I would like to address how we accomplished this achievement by quickly reviewing the strategic initiatives we identified at the beginning of the year.

We identified products as one of our bottlenecks constraining our growth at the end of last year and we made substantial progress in this regard by strengthening our product team expansion. In the first six months of this year, we distributed $2 billion worth of transaction value; roughly the same amount for the whole year of 2010.

Not only have we successfully increased the quantity and scale of our product distribution, we have maintained product quality through rigorous risk management. Our recent product providers include some of the most leading names in China, such as CDH, Fortune, Intime, Vanke, Aegon-Industrial and Guotai.

Regarding our clients, we had set out to strategically and systematically broaden in our client engagement in terms of the number of active clients. We recorded an unprecedented number of 1,173 active clients in the second quarter of 2011, compared to 343 active clients in the corresponding period in 2010, representing a 242% increase.

Our client strategy this year is to first focus on breadth, then depth, as well as striking a balance between active client conversion and deepening existing client relationships. This is especially important in light of the increasing competition after our IPO.

In terms of client penetration, we have started to emphasize the distribution of regional products as we strengthened regional management. Regional products help us further deepen local client acquisition and increase local client wallet share. For example, we completed a Guangzhou-related fixed income product, which was sourced by our regional branch office and distributed locally, and it was well received by clients in that region.

Leveraging on a branch network and establishing regional product teams, we expect to distribute more regional products toward the end of the year.

Furthermore, we remain focused on diversifying our product mix. Despite difficulties in distributing secondary market-related products due to the anemic A share market, we will continue to do the right thing at the right time. We distributed over $200 million worth of A share related products in the first half of this year, compared to $36 million in the year 2010.

Our Fund of Funds business, another strategic focus, will also help our clients with diversification and asset allocation. Over the last year, our renminbi Fund of Funds business has gained recognition from clients and market players. And we are now gearing up for the fundraising of a new renminbi-denominated fund of private equity funds in the third quarter.

Lastly, product innovation remains a core component of our product strategy. As we approach the inflection point of demographic dividend, we expect strong, high-end consumption growth in the coming years. And we're seizing the opportunity to explore wealth management products related to the consumption of luxury goods, which we'll update the market in due course.

I would like to provide some broad comments on the market conditions currently. Market is full of uncertainty, inflationary outlook and various government policy initiatives, just to name a couple. But our view is that inflation, to a certain extent, is good for our business as it puts more pressure on individuals to invest. My personal opinion is that inflation probably peaked in the second quarter.

Second, the current volatility of the A share market from a certain perspective helps clients become cognizant of investment risks and become more rational over various investment decisions and return expectations. This, in turn, helps us manage, if not, improve, client satisfaction.

The current private equity market seems a bit heated and disorderly, but we continue to be one of the distribution channels of choice for leading fund managers.

In addition, as our previously distributed private equity funds start to monetize their investment and our clients receive their returns, we began to harvest the fruits of client appreciation. As a result, clients have more confidence and certainty over our product selection process.

Finally, there is increasing brand equity for Noah in the marketplace. Because of our clear positioning, professionalism, and track record, we're now able to work with top tier product providers more than ever, which further solidifies our market leadership in terms of product origination.

Let me also briefly talk about the regulatory environment. Overall, my view is that the regulatory environment in China is becoming more market oriented and open. You can see licenses being granted in micro financing and third-party payments. And in late June, China Securities Regulatory Commission also announced an intention to grant new mutual fund distribution licenses to non-bank financial intermediaries and foreign banks.

We continue to maintain regular, disciplined dialog with regulators. Recently, we were invited by one of the regulatory agencies to share with them our risk management approach and product selection process, and it's fair to say that they acknowledged our experience and procedures.

Through our interaction with various regulators, we are cautiously optimistic of their increasing support of our leadership position in this nascent and fast-growing wealth management industry.

Finally, Chinese ADRs listed in the US have obviously been through a rough ride in the last quarter. However, my view is that our biggest challenge is not from external markets, rather from internal management upgrade keeping up with Company growth.

How do we become not only a high growth company, but grow while retaining the advantages of a small company, as well as maintaining effective communication with our employees and clients? As our Company becomes larger, our sustainability will ultimately depend on our ability to effectively manage our growth.

We recently completed a productive Company semi-annual meeting covering 200 of our key employees out of a total employee base of nearly 900. Over the course of four days, we discussed how we can make our employees and clients our die-hard fans. We collected over 1,000 suggestions and we're compiling them into concrete, actionable plans. This is a reflection of our employees' passion and drive, as well as our room for improvement.

Although competition is intensifying, we believe competition is not a boxing match; it's a high jump. We strive to become an industry leader, not by beating our competitors but by constantly seeking self-breakthroughs, without any limitations to how much we can surpass our goals.

With that, I will now pass the call to Tom to review our detailed Q2 performance. Thank you, all.

Thank you, Madam Wang. And good morning, or evening, everyone. I will provide highlights on our operational and financial results for the second quarter.

By just about any measure, we had a very strong quarter. Transaction value more than doubled to reach $1.2 billion on a year-over-year basis.

Registered client base grew to 22,276, out of which 1,173 were active clients for the quarter; a 242% growth on a year-over-year basis.

Net revenues reached over $23 million, and non-GAAP net income of over $9 million.

We also expanded our branch network to 45 branches from 39 branches, and will continue to target by the end of the year 58 to 60 branches.

Revenue growth was robust, about 200% on a year-over-year basis, and the growth exceeded our own plan somewhat. A couple of the products we started to distribute in the second quarter, which we had planned to complete in the third quarter, progressed much faster than expected and benefited second quarter revenues. But even excluding the two products intended for the third quarter, revenue growth would still have been robust.

Product mix for the quarter was relatively consistent with fixed income, private equity, and secondary market representing 34%, 58%, and 8% respectively.

Number of active clients reached an all-time high on a quarterly basis. As Madam Wang mentioned, we focused on breadth, not just depth, of our client engagement. Out of the 1,173 active clients for the quarter, about 60% were first-time active clients, which is slightly higher than averages.

Transaction value per active client declined on a quarter-over-quarter basis, partly because of the decline in our Enterprise business, which tends to have higher per capita transaction value. We'll obviously focus our effort on the Enterprise segment of our business.

This metric, transaction value per active client, will probably continue to be volatile going forward driven by product mix, and in this case, channel mix.

One-time commissions for the second quarter of 2011 were $18 million, a 204% growth on a year-over-year basis, driven by the increase in transaction value.

Net revenues from recurring services, service fees for the second quarter were $5.3 million, a 178% year-over-year increase, due to the accumulative effect of private equity funds and security investment funds distributed previously.

We continue to believe that our recurring revenue is an important element in our earnings visibility, and this segment of revenues was about 23% of total revenue this quarter.

Gross margin for the second quarter was 81%, which declined on a year-over-year basis. This decline is a function of our continued business expansion. As we have mentioned on previous calls, we'll probably continue to experience gross margin pressure as we hire additional relationship managers and maintain competitive compensation.

Total SG&A costs for the second quarter of 2011 were $8.4 million, doubling from the corresponding period in 2010 as we expanded our platform. We expect operating costs to continue to increase for the remainder of the year as we accelerate investments in our platform, including product development, research and technology, and new business initiatives.

These investments will probably put short-term pressure on our operating margins. As we mentioned on previous calls, we are in an investment phase for 2011, and investors should not expect margin improvement probably until next year as we start to achieve economies of scale.

Accounts receivable increased by $2.2 million from the previous quarter. This was mainly a function of our growth in transaction value and revenues. All of the receivables are within credit terms, and the quality of our receivables continues to be very strong.

Finally, I would like to comment on our guidance range, or the revision of our guidance range, before we open the floor for your questions.

Our first half results were obviously very strong, with non-GAAP net income reaching $15.4 million, out of which $1.5 million came from currency gains.

In considering our revised guidance, we have not assumed any currency gains for the second half and have incorporated incremental investment costs in our platform and new business initiatives.

The mid-point of our revised guidance range, of $24 million and $26.5 million of non-GAAP net income, represents about 80% growth -- excuse me -- represents about 90% growth on a year-over-year basis. We'll obviously update markets in due course should our assessment change.

That completes our prepared remarks. Thank you for your time today. Madam Wang and I will be happy to address questions you may have. Operator?

(Operator Instructions). Please limit yourselves to two questions and one follow up. Sophie Lam, Roth Capital Partners.

First of all, congratulations on a [very strong] quarter. My first question pertains to your branch network expansion. I can see that during the first quarter you had 39 branch offices, and 45 in this quarter, and I just want to make sure that of the six new branch offices, where are they geographically located? And can you highlight a little bit on their turnaround cycle, please?

Yes, Sophie, I will take a stab at the question. We increased our number of branches by six the last quarter to 45, and most, if not all, of these branches are primarily in the four provinces; Guangdong, Fujian, Zhejiang, Jiangxi provinces. This is consistent with what we have shared with the marketplace in terms of our branch network expansion strategy, basically focusing on the top wealthiest 100 counties in China.

I'm not sure what you meant by turnaround, but what I could do is add some color in terms of the branches we have opened in 2010. All of the branches that we have opened in 2010 as a Group are now profitable; they're contributing to the bottom line for the Company. And we're hopeful that the new branches will also have a similar growth profile, in terms of return trajectory, roughly within 12 to 18 months from when they were opened. I hope that answered your question.

But I wanted to correct myself. Actually, two branches were outside of the four provinces that I mentioned. One is in Erdos, which is in Inner Mongolia. This may sound strange, but actually it's a new riser of wealth center in China. And the other one is in Sichuan, which we're using as a regional headquarter for the Western part of China. So we're branching out.

But mostly, the new branches you should expect for the remainder of the year will be primarily concentrated on the four provinces that I highlighted.

Thank you, that's very helpful. My second question relates to your product mix. Can you please provide us the percentage of real estate-related market products?

Yes, sure, that's a fair question. Let me do this. 34% of our $1.2 billion worth of transaction was in the areas of fixed income. That's where property related products is primarily concentrated. Out of that 34% of transaction value, about 90% came from property related areas. So if you do the math there, roughly about 30% of our transaction value came from the property sector, which is roughly in line with what we have seen in the past.

But I want to finish my answer on this question by reiterating our risk management focus, we are single mindedly focused on not only the value of our transaction volume but the quality, as Madam Wang mentioned in her prepared remarks.

And finally, the quality of the property developers that we are cooperating on a product side, many of which are 1st tier. I think Madam Wang mentioned a couple of the names in her part. And we are comfortable in terms of the mix. Obviously, we would like to diversify in terms of mix, but at the moment the quality is good.

(interpreted) I would like to add some more color on this question. Last year, we worked with one of the leading property developers in China. This year, the project had come due to maturity and the repayment of the product was from cash sale of the underlying properties and flats. In around two weeks' time, the property developer received more than RMB3 billion worth of proceeds. This, again, represents an underlying strong demand from real estate in China.

So, going forward, we will continue to be very cautious and careful in regards to who we work with, and we're likely to continue working with only the top property developers in China.

Thank you. I'll go back to the queue.

Samuel Chen, JPMorgan.

Much congratulations, Madam Wang and Tom. Just a question on, again, the products that you sold in the last quarter. I think Tom mentioned that actually some of the products were originally planned in the third quarter and brought over to second quarter, can you give us some examples of the product name that are major contributor to the strong growth in the transaction value during the quarter? And I guess -- I think it might be in the key private security funds? And what's in the pipeline for the second half in terms of a product?

I think there are really two parts to your question. First of all, I want to emphasize that even without the products, which accelerated in terms of execution, our revenue growth would have still been very robust. But let me add a little bit more color.

Roughly, about 10% of the transaction value came from what we had planned for, for the third quarter. So if you do the math, instead of growing 200% year-over-year, we would have grown probably by 180%. And the two products were primarily in the private equity areas, so that took some revenue away from the third quarter.

I think your second question is about the product mix for the second half. Just a couple of points there; one is that we have a pretty solid product pipeline for the second half, so we're comfortable in terms of how we're prepared for the second half. It's a pretty broad mix of private equity, secondary market funds and fund of funds, which Madam Wang mentioned, and of course fixed income. And the second point is obviously it's going to be a function of how we execute.

So we are comfortable with the pipeline and we are comfortable with the mix, even though we're trying very hard to diversify into other areas, including areas related to luxury product consumption, as Madam Wang mentioned. So, yes, I think that's probably what I want to say on that question.

Thanks, Tom. And just a very quick follow up. I think Madam Wang might have mentioned it, but I didn't catch it, how much are the Fund of Funds side? Any new issuance in the quarter?

Are you talking about the second quarter, or what we had planned for the --?

Yes, the second quarter, the Fund of Funds, any new issuance?

Yes, there is an increase in our Fund of Funds value, but it's a very moderate increase. (spoken in Chinese), I'm not sure how to say that in English, but it's a -- follow on roughly about RMB20 million from that.

Okay, thank you.

For the second quarter.

Okay, thanks.

(interpreted) Our Fund of Funds business did not have any major fund raising activities in the first half of this year. We were primarily focused on team building and GP coverage. In the third quarter of this year, we are already gearing up for fund raising of a new renminbi-dominated fund of private equity fund.

Michael Li, Bank of America Merrill Lynch.

Congratulations on a strong performance in second quarter, especially in the [tightening] environment. And my questions are about trust products and the cost. We see trust products mix remain stable at 34%, and we also see some reports about trust companies, some of them are setting their own branches and they're selling their own products, so do you see any difficulties in getting high quality trust products in second quarter and in the second half of this year?

And second question is about cost. You increased the branches by six in the first half, and according to your target you will increase another 15 branches in second half, so do you expect a further cost increase because of the expansion? Thanks.

I think I'll ask Madam Wang to comment on the first question of trust companies and their direct sales effort, and I will answer your second question about the cost, vis a vis new branch openings.

(interpreted) Regarding your question on trust companies, obviously competition has intensified, especially after our IPO. There are new entrants, whether it's independent wealth management companies, like ourselves, or trust companies developing their direct sales abilities. However, as I emphasized, we believe that competition is not a boxing match, rather it's high jump.

The key challenge is how we continuously improve our management capabilities? How do we successfully execute our strategy? In this regard, in terms of our client strategy, it's to first broaden client engagement, then to further deepen our client relationships. As a product strategy, we're focused on regional products, diversification of asset allocation by our Fund of Funds business and innovator products.

So far, we are quite satisfied with the execution of our strategy in the first half of this year. For the remainder part of the year, we'll focus on improving our brand equity, as well as improving the satisfaction of our existing clients and employees, as well as further new client acquisition. We believe, if we continue to focus on our execution of our key priorities, we will maintain our leadership position in the industry.

I think it's quite normal for trust companies to consider or develop their own direct sales effort. However, with time, they may realize that the cost of establishing their own direct sale efforts may not be better off or cheaper than outsourcing the marketing or sales effort outside.

Like in the case of mutual fund distribution, back in 2000, when mutual fund business started developing in China. Over a 10-year period, nearly all the mutual fund companies have their own direct sales team. However, mutual funds distribution through various channel continues to dominate roughly about 90% of the market share.

And, Michael, I would just add a couple of points here. I think scale is very, very important. The comment Madam Wang mentioned about mutual fund distribution, a very similar pattern can be observed in the US, where direct sales roughly are, I guess, a smaller percentage of distribution capability.

So I think the point I wanted to make is our market is still very small in this business. We've talked about this in the past. The market is growing, so there's ample opportunity for not only just ourselves but other successful players in this business. But our scale, our increasing brand, and our track record, these are all very important elements of consideration for product providers.

But I will address your second question about the costs associated with new branch offices. The short answer is, yes, cost, as I mentioned in our script, will continue to go up. We still believe that the breadth of coverage is important, we still believe that it's important to be a first mover in these new markets, so we have not changed our target for the end of the year in terms of number branches; 50 to 60 by the end of the year.

And second is that, yes, it's going to put some pressure on our profitability. But, as I said earlier, we are in that investment phase for 2011 and obviously we should start to realize the synergy or economies of scale probably in 2012.

All of which, all these considerations are factored in, in our guidance, in our guidance which we revised as part of this earnings announcement. I hope that's helpful.

Thanks, Tom, and Madam Wang.

Ella Ji, Oppenheimer.

Congratulations on a very strong quarter. Firstly, I want to follow up with the prior question regarding your costs, and also margins.

For this current quarter, 2Q, despite that you opened the six new branches you still achieved a quarter-over-quarter margin improvement, and I understand a lot of that is coming from the economies of scale.

Now, in the second half of the year, while we understand that investment will increase along with your new branches, in terms of the economies of scale, should we still expect the economies of scale will be able to offset your investment pressure? Or do you think it wouldn't really recur in the second half of the year?

I think that's a fair question, Ella. I would just point out that the margin expansion in our second quarter is primarily because of the top line growth. On a quarter-over-quarter basis, our revenues grew by 54%. So even if we -- even though we opened six additional branches, obviously, you're going to realize that the cost did not go up as quickly as the top line growth.

So if you read our earnings release, that was the primary reason for the margin expansion, and to a certain extent maybe there's some economies of scale.

The second half of your question, what should investors expect in terms of margins, or implications of economies of scale for the second half, I think the short answer is, no, we don't think that economies of scale will be able to offset the cost increases.

I just give you some color right now. Madam Wang mentioned that we have now over 900 employees, which is a very, very strong growth. And out of that 900, our front office, meaning relationship managers, to back office ratio, is roughly about one-to-one, meaning that 450/460-ish RMs and 460-ish back office. It's a one-to-one scale.

We don't think that is economies of scale. We think that eventually this business, the back office to front office ratio, should improve significantly. But we're not getting there for the second half of the year as we grow our back office headcount, as we build up our IT product development, research.

So the short answer is, no, you're probably not going to be able to see synergy or benefit of economies of scale to offset the growth in our costs for the second half. But I wanted to emphasize all of the considerations of costs that you mentioned, and Michael from Merrill mentioned earlier, are factored in into our guidance when we revised the range. I hope that answered your question.

Yes, that's very helpful. And my second question is do you have a target number of relationship managers by the end of this year?

Yes. The short answer is yes. I'm not going to broadcast widely the actual number for competitive reasons, a lot of people are listening to this call, but you could probably give an estimate because the additional branches that we plan to open. As we've mentioned to all of you in the past, the rough ratio is for new branch we tend to staff a new branch with roughly about four to five RMs.

So if you look at, say, 60 branches by the end of the year versus 45 that we're at now, you can probably get a sense of the growth of RMs from the new branch openings alone. That's the first growth area of our RM forces.

And number two, for the existing branches that we have, including Shanghai, we are also going to add RMs as we start to cover the market more thoroughly. But, yes, we have a target and it's going to grow by the end of the year.

Okay, got it. Thank you, thank you very much. And congratulations, again.

Thank you, Ella. Operator?

(Operator Instructions). Okay, and there are no questions at this time.

Thank you, all, for your time today, and we look forward to further communications with all of you in the near future. Thanks, again. Good morning, and good evening.

(interpreted) Thank you.

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect.

Portions of this transcript that are marked (interpreted) were spoken by an interpreter present on the live call. The interpreter was provided by the Company sponsoring this Event.