ZTO Express (Cayman) Inc (ZTO) 2017 Q3 法說會逐字稿

Good day, and welcome to the ZTO Third Quarter 2017 Earnings Conference Call. (Operator Instructions) Please also note that this event is being recorded.

I would now like to turn the conference over to Ms. Sophie Li, Investor Relations Director. Please go ahead.

Thank you, operator. Hello, everyone, and thank you for joining us today. The company's results and the Investor Relations presentation were released earlier today and are available on the company's IR website at ir.zto.com.

On the call today from ZTO are Mr. Meisong Lai, Chairman and Chief Executive Officer; and Mr. James Guo, Chief Financial Officer.

Mr. Lai will give a brief overview of the company's business operations and highlights, followed by Mr. Guo, who will go through the financials and guidance. They will both be available to answer your questions during the Q&A session that follows.

I remind you that this call may contain forward-looking statements made under the safe harbor provisions of the Private Securities Litigation Reform Act of 1994. Such statements are based on management's current expectations and current market and operating conditions and relate to events that involve known or unknown risks, uncertainties and other factors, all of which are difficult to predict and many of which are beyond the company's control, which may cause the company's actual results, performance or achievements to differ materially from those in the forward-looking statements. Further information regarding this and other risks, uncertainties and factors is included in the company's filings with the U.S. Securities and Exchange Commission. The company does not undertake any obligation to update any forward-looking statement as a result of new information, future events or otherwise, except as required under law.

It is now my pleasure to introduce Mr. Meisong Lai. Mr. Lai will read through his prepared remarks in their entirety in Chinese before I translate for him in English. Mr. Lai, please go ahead.

(foreign language)

Let me translate for Chairman. Hello, and thank you, everyone, for joining our call this morning. Our business continued to generate strong growth momentum. Parcel volume grew 39.4% year-over-year, hitting 1.54 billion parcels, while the revenues increased 33.6% year-over-year to RMB 3.14 billion. Our adjusted net income surged during the quarter to RMB 730 million, an increase of 33.5%. We continue to successfully support this healthy and sustainable growth of our business across all operational metrics while improving service throughout our entire network. Looking ahead, we will continue to work with our network partners through our shared success system to improve our overall operating efficiency and enhance service quality in order to consolidate our leading position in the industry and generate value for our shareholders.

With that, I will now turn the call over to James, who will go over our financial results in more detail.

Thank you, Chairman. Our parcel volume growth during the quarter outperformed the 28.4% industry average by 11 percentage points, demonstrating the continued steady increase of our market share when compared to the same period last year. During the third quarter, we continued to make solid progress in enhancing service quality. According to data compiled by the State Post Bureau, ZTO once again received one of the highest scores for customer satisfaction among the major express companies in China during the quarter. To further improve service quality and protect the interest of customers, we strategically decided to raise our delivery service fee on October 10, 2017. This measure helps to align the interest of ZTO with our network partners, further enhance service quality, protect the interest of our customers and offset rising transportation, labor and raw material costs. I am confident that this will further stabilize our network and create favorable conditions for our long-term sustainable growth.

We continue to strengthen our cost advantage by leveraging our economies of scale and implementing cost cutting initiatives. This will strengthen our operational efficiency and allow us to meet growing market demands, particularly during Chinese peak shopping season in the fourth quarter. As of September 30, 2017, we have installed a total of 41 automatic cross-belt sorting equipment and 30 sorting hubs across the country, an increase of 19 lines from the second quarter of 2017. In addition, we added more than 160 high-capacity 15- to 17-meter long trucks to our self-owned fleet during the third quarter, which expands our transportation capacity and increases operational efficiency. This is further supported by an increased adoption rate of digital waybills, which grew to 88% from 73% during the same period last year. These measures have not only strengthened our cost advantages but also further enhanced our capacity and efficiency as we head into peak season.

According to data from the State Post Bureau, total parcel volume during China's Singles' Day was 331 million, an increase of 31.5% when compared to the same day of last year. We collected approximately 65.7 million parcels on Singles' Day, and our year-over-year parcel volume growth rate on Singles' Day this year was over 10 percentage points higher than the industry average growth. With that, I would like to begin going through our financials.

First, let me quickly go over a few housekeeping items [where] year-over-year comparisons are one of the most useful ways to assess our performance. All percentage changes I'm going to give will be on that basis.

Our parcel volume during the quarter increased by 39.4% to approximately 1.54 billion. Our number of self-owned trucks increased to over 3,250 as of September 30, 2017, from 3,190 as of June 30, 2017. The use of more self-owned, high-capacity trucks has enabled us to enhance transportation efficiency continuously and reduce unit transportation costs as we further increase our economies of scale.

Revenues increased by 33.6% to RMB 3.1 billion, primarily due to an increase in parcel volume as a result of overall market growth and an increase in the company's market share in terms of parcel volume.

Cost of revenues rose to RMB 2.0 billion, an increase of 33.6%, primarily due to increases in line-haul transportation, sorting hub operations and accessories costs, which were partially offset by a decrease in waybill material costs due to the increased use of digital waybills by our end customers, which has lower cost than paper waybills.

Going into further detail. Line-haul transportation costs increased 25.4% to RMB 1,103,947,000. The increase was primarily due to increased costs associated with our self-owned fleet, which include fuel, tolls, drivers' compensation, depreciation and maintenance expenses and outsourced transportation services. As a percentage of revenues, line-haul transportation costs accounted for 35.1%, a decrease from 37.4% in the same period last year, mainly due to one, economies of scale; two, increased purchase and use of cost-efficient, higher capacity trucks; and third, increased truck utilization through optimized route planning and increased backhaul transportation.

Sorting hub operating costs rose 23.9% to RMB 586.1 million, primarily due to increases in labor costs as a result of wage and headcount increases, depreciation and amortization costs and rental and related utility costs.

As a percentage of revenues, sorting hub operating costs accounted for 18.6%, a decrease from 20.1% in the same period last year, mainly due to economies of scale and improved operational efficiency as a result of increased use of automated sorting equipment in our facilities.

Cost of accessories increased 37.2% to 30 -- to RMB 93 million, which was in line with growth in our revenue from the sale of accessories. Other costs increased 180% to RMB 222.3 million, primarily due to an increase in dispatching costs associated with serving enterprise customers, which were partially offset by a decrease in material costs associated with the increased use of digital waybills.

Gross profit rose 33.5% to RMB 1.138 billion, and gross margin remain unchanged at 36.2% when compared to the same period last year.

Total operating expenses increased 66.3% to RMB 193 million.

Taking a closer look, we see that SG&A expenses increased by 50.6% to RMB 193.4 million, primarily due to increased share-based compensation expenses, payroll and social welfare and accrual for annual performance bonuses associated with our cost-cutting initiatives.

Income from operations was RMB 944.7 million, an increase of 28.3% from the same period last year. Foreign currency exchange loss before tax was RMB 27.5 million, primarily arising from the remeasurement of U.S. dollar-denominated bank deposits at the company's balance sheet date due to the depreciation of the U.S. dollar against the Chinese RMB.

In the third quarter, net income rose to RMB 717.2 million compared with RMB 547.2 million during the same period last year.

Basic and diluted earnings per ADS was RMB 1.00 compared to RMB 0.76 (sic) [RMB 0.78] during the same period last year.

Adjusted net income surged to RMB 730.7 million compared to RMB 547.4 million during the same period last year.

EBITDA was RMB 1.104 billion, a significant increase from RMB 832.9 million during the same period in 2016. Adjusted EBITDA was RMB 1.118 billion, an increase from RMB 833.1 million during the same period last year.

Net cash provided by operating activities was RMB 1.024 billion compared with RMB 846.9 million during the same period last year.

As of September 30, 2017, the company had approximately RMB 10.7 billion in cash and cash equivalents, time deposits and short-term investments, a decrease of (sic) [from the] RMB 11.3 billion at the end of last year.

Now turning to guidance. For the fourth quarter of 2017, we expect revenues to be in the range between RMB 3.9 billion and RMB 4.1 billion or USD 586.2 million to 618 -- USD 616.2 million, representing a year-over-year growth rate of approximately 22.2% to 28.5%. This represents management's current and preliminary view, which is subject to change.

This concludes our prepared remarks. (Operator Instructions) Operator, we are now ready to begin the Q&A session. Thank you.

(Operator Instructions) Our first question comes from Baoying Zhai of Crédit Suisse.

(foreign language)

(foreign language)

(foreign language) So I will translate my questions. So congratulations to the solid third quarter results if we exclude the FX loss this year and the government subsidies of last year. So my questions would be more focused on the guidance and the future strategy. My first question is regarding the guidance. We can see that the fourth quarter guidance actually is very conservative. I want to know more reasons behind this. First of all, is that we are intentionally lowering the guidance so give some positive surprise such as we did in third quarter? And the second reason is that because of the ASP. Because from the third-party database, we can see that the volume growth of ZTO is very strong, actually 15 points higher than the industry growth. So is it because of the ASP? As we can see, we have a new delivery fee policy, which is starting from the 1st of November to restrict the portion of big parcels. So how much the portion of the big parcels now and how much is the average weight now?

(foreign language)

Yes, let me do the translation for the Chairman. The Chairman mentioned about several key points. First, we remain optimistic about our business prospects and the fundamental of the business in Q4. We are confident that our parcel volume growth rate will exceed the industry average growth rate in Q4. And he also mentioned that the number of heavy parcels with an average weight over 5 kilograms accounted for only a very small portion of our total parcel volumes in Q4. And the average weight of the parcels continues to trend down in October and November at a single-digit rate. And lastly, he mentioned that we've been always been very conservative when issuing forward-looking guidance.

(foreign language)

The Chairman also added that due to our continuous strategy of optimizing the parcel structure, currently, the parcels would weigh over 5 kilograms, accounting for only a very small portion of total parcel volume. And for example, he mentioned that the average weight of parcels dropped to about 1.19 kilograms in Q3 from about 1.36 kilograms in the same period last year. And we believe that our new pricing policy is being well implemented by our network partners. And based on the October data, our market share in terms of parcel volume increased amid a slowdown of parcel growth in the industry.

Our next question comes from Edward Xu of Morgan Stanley.

(foreign language)

(foreign language)

(foreign language)

(foreign language)

Okay. The question from Edward Xu from Morgan Stanley is about your ASP. Because we see that the ASP decline has been narrowed in third quarter on a year-on-year basis versus the first quarter and second quarter. So I think that this is a good sign. And given that you have recently asked for the price hike during the Singles' Day, so what do we expect the fourth quarter for the ASP? And also, what's your view on the 2018 in terms of ASP changes?

(foreign language)

Our ASP was about RMB 2.05 during the third quarter, down 4.2% on a year-over-year basis. And actually, the decline was narrowing on a sequential basis. ASP decline was due to a number of different reasons. For example, it includes, first, the increased use of digital waybills. And also, the adoption rate of the digital waybill increased actually to 88% in Q3 this year from about 73% in the same period last year, and that has led to a decrease in digital waybill revenue per parcel. And second, the continued optimization of our parcel structure, this has resulted in the average weight per parcel [was shrunken] on a year-over-year basis. We just mentioned that the average weight of the parcels dropped from about 1.36 kilograms in Q4 last -- Q3 last year to about 1.19 kilograms in Q3 this year, reducing our network transport fee per parcel by about 3%. And he also mentioned that the average revenue per parcel in the fourth quarter will be primarily affected by changes in parcel weight, our shipment route and the usage of digital waybills. And fee adjustments during the Singles' Day period should positively affect our ASP but the period where they're applicable is a little bit too short to make a substantial impact in Q4. We believe that the overall price per parcel will stabilize and further industry consolidation will take place in 2018. We will maintain the flexibility to adjust the network transport fees and waybill fees as the overall price of our network partners gradually stabilizes. And this should effectively balance the interest of ZTO and our network partners. We firmly believe that the stability and profitability of our network partners are conducive to the long-term sustainable growth of the industry.

(foreign language)

Yes. So the Chairman mentioned that the expected ASP in 2018 is expected to, first, stabilize and pick up gradually over time.

(foreign language) My second question is regarding your unit cost. So we see that the unit cost savings on a year-on-year basis also narrowed in the third quarter versus the previous quarters. So can you explain the reason and tell us what the trend will look like in the next few quarters? And where are the areas that you can keep saving your costs?

(foreign language)

I'll do the translation for the Chairman. So because of the scale of our network and the subsequent network effect and also our cost-cutting initiatives, our unit cost for the third quarter continued to decrease to about RMB 1.31 per parcel, representing a 4% decrease from RMB 1.36 per parcel during the same period last year. We believe that China's express delivery industry still has significant growth potential in the coming years as the scale of our business continues to grow and our cost-cutting initiatives further take hold. Our unit cost still has much room to fall over the next few years. In terms of transportation cost controls, we have adopted a number of measures which are gradually paying off. First, we have incremental cost control measures or third-party transportation costs. For example, we have increased the number of self-owned fleet to replace third-party logistic vehicles. And second, we have also optimized our transportation routes to reduce transportation distance, fuel consumption and secondary transport [fleet]. We will continue to focus on replacing our small capacity vehicles with high-capacity 15- to 17-meter long trailer trucks. As I mentioned earlier, one of the benefits of our self-constructed sorting hubs is that we can design and build sorting hubs to allow for bigger trucks to ship parcels between the hubs according to our own shipment schedules. With this in mind, we will continue to invest in building or expanding our own sorting hubs. And third, we also improved the performance appraisals of our sorting personnel and will continue to increase investments in automated sorting equipment, especially automated belt conveyors. We recently invested in dynamic weighing stations, which can accurately weigh parcels as they move through the sorting process. And these investments have significantly increased our sorting efficiency and reduced our labor costs. With respect to the impact of unit cost decline on price, price is essentially determined by the market, and price changes depend on the relationship between market supply and demand, and this includes the matching of our network capacity with the market events. As we mentioned earlier, we expect prices to stabilize next year and then aggressively pick up over time. But there's still much -- there's still room for cost reduction, which will generate more profits for our entire network, given a constant price -- if there's no change in the price.

Our next question comes from Vivian Tao of Citibank.

(foreign language) My first question is on the market share. When you look at ZTO's quarterly market share, it was at 15.5% first quarter and 15.3% second quarter and then 15.2% third quarter. So sequentially, it's slightly down the past few quarters. So just want to see what's the management's view on this and also what's management's guidance on this year's market share in the fourth quarter and also in 2018. In addition to that [here India] read out its announcement today, the company mentioned that you handled 65.7 million parcels on Singles' Day versus industry's 331 million parcels. That implies 19.8% market share. So I also want to see what's management's view on this particular market share and also if there's any implication for the Singles' Day volume for the next year.

(foreign language)

Okay, I'll translate the Chairman's answers to your questions, Vivian. First, he mentioned that the market share in terms of parcel volume in Q3 cannot be compared directly on a sequential basis. It is more meaningful to compare market share on a year-over-year basis. For example, he mentioned that our market share in third quarter 2016 is only about 14%, a little bit over 14%, but we increased our market share to over 15.2% in this quarter, so that's a very significant increase in market share. And we remain confident that our expected growth, parcel volume growth, will continue to well above industry growth. And second, he mentioned that according to the data from the China State Post Bureau, 331 million parcels were collected by the Chinese postal and express delivery companies on Singles' Day, up by about 31.5% year-over-year. And our parcel volume on Singles' Day was about 65.7 million, outperforming the industry average growth by more than 10 percentage points. We believe that our market share in terms of parcel volume also expanded on a year-over-year basis on Singles' Day. Maintaining high-quality services during peak season requires a stable network, sufficient capacity, solid delivery capabilities and also strong execution and operational efficiency. We believe we have more of a competitive advantage in these areas than our peers.

(foreign language) My second question is on the cost side. In the announcement, this item, the Other cost, which is actually mainly the depreciation costs associated for the enterprise customers, that increased by 180%. Actually, [that's not increased], we just want to find out what's the reason behind that. Also, the associated revenue increased because of that cost increase.

Okay. To answer your question -- let me answer your question, Vivian. Our -- the revenue from our enterprise customers also increased significantly in Q3 this year. It's up by over 100% on a year-over-year basis in revenue. And now, paying customers, I mean key account customers contributed to about 10% of our total revenue in Q3 this year.

Okay. Do you have number for last year, James, the third quarter 2016? So it's 10% this year, right?

Yes. Last year, the revenue from key account customers only accounted for less than 6% of our total revenue.

Our next question comes from Xin Yang from CICC.

(foreign language)

(foreign language)

(foreign language) So I'll do the translation myself. My first question is that we saw that you actually bring up the delivery service fee as well as the transfer the transfer fee for the long haul cost and certain costs. So did other players in the market also follow the same kind of strategy? And what is the market share change after we adopted this kind of strategy? And do you think this should be the turning point of the whole market in terms of the price?

(foreign language)

Okay. Let me translate for the Chairman. The Chairman mentioned that the new pricing policy was well implemented during the Singles' Day period. And the purpose of the new pricing policy was meant to improve our service quality and protect the interest of the customers and also ensure the overall healthiness of the network partners within our ZTO networks. And he said he makes no comments on the behavior of our peers with respect to whether they follow suit after we raised the price during the Singles' Day period. The Chairman believes that our market share in terms of parcel volume continue to expand during the Singles' Day period. And he believes our expected growth during that period was at least over 10 percentage points above the industry average.

And last one is, does it make this the turning point of the whole market price?

Oh, yes. And he said China express delivery industry is now the most cost-effective in the world. And I believe that the price should stabilize in the coming year and then gradually picks up over time. And that indicates a turning point in the industry.

(foreign language) So I'll do the translation myself. What is your strategy for the diversified side? We saw that [SF simple] has already entered into the inter-city market and also, YTO has acquired an international arm to do international e-commerce parcel. So what is your strategy for -- what is ZTO's strategy for this kind of business?

(foreign language)

The Chairman mentioned that business diversification is the new direction in the express delivery industry in China. And we're already putting in place our plans as we are committed to building out our ecosystem in several areas, including the less-than-truckload business, cloud warehousing solutions, cross-border e-commerce deliveries, et cetera. We will provide an update to the shareholders once our plans are confirmed and we are ready to disclose those plans.

And our next question is a follow-up from Baoying Zhai of Crédit Suisse.

(foreign language) First of all. So a follow-up with the Double 11 situation. So how about the implementation of the price hike, especially for the franchisees. At the headquarter, do you know how many franchisees actually did [transact]? And according to my channel check, I actually found that for some big franchisees in Shanghai decide that they wouldn't actually adjust it down, their prices, even post-Double 11. At the headquarter, if you have known about this.

(foreign language)

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