DLocal Limited (NASDAQ:DLO) Q3 2023 Earnings Call Transcript

DLocal Limited (NASDAQ:DLO) Q3 2023 Earnings Call Transcript November 22, 2023

Operator: Good day, and thank you for standing by. Welcome to DLocal’s Third Quarter 2023 Results Conference Call. [Operator Instructions] Please be advised that today’s conference is being recorded. I would now like to hand the conference over to the company for prepared remarks and video. Please go ahead.

Soledad Nager: Good morning, everyone, and thank you for joining the third quarter 2023 earnings call today. If you have not seen the earnings release, a copy is posted in the Financials section of the Investor Relations website. On the call today, you have Pedro Arnt, Co-Chief Executive Officer; Sebastian Kanovich, Co-Chief Executive Officer; Sergio Fogel, Co-President and Chief Strategy Officer; Diego Cabrera Canay, Chief Financial Officer; Maria Oldham, SVP of Corporate Development, Investor Relations and Strategic Finance; and Soledad Nager, Head of Investor Relations. A slide presentation has been provided to accompany the prepared remarks. This event is being broadcast live via webcast, and both the webcast and presentation may be accessed through DLocal’s website at investor.dlocal.com.

The recording will be made available shortly after the event is concluded. Before proceeding, let me mention that any forward-looking statements included in the presentation or mentioned in this conference call are based on currently available information and DLocal’s current assumptions, expectations and projections about future events. While the company believes that our assumptions, expectations and projections are reasonable, given currently available information, you are cautioned not to place undue reliance on those forward-looking statements. Actual results may differ materially from those included in DLocal’s presentation or discussed in this conference call for a variety of reasons, including those described in the forward-looking statements and Risk Factors sections of DLocal’s filings with the Securities and Exchange Commission, which are available on DLocal’s Investor Relations website.

Now, I will turn the conference over to Pedro Arnt. Thank you

Pedro Arnt: Thanks for joining us today. Let me start by saying that after my initial quarter at DLocal, I’m enthusiastic about our future prospects and the promising opportunities that our business presents for us. As we’ll cover briefly, our current performance, our future pipeline and market opportunity present a unique opportunity for sustained growth over a multi-year period, driven by the powerful secular trends behind emerging market adoption of digital products and services. We need to remain focused on executing behind that opportunity while constructing the foundational blocks as a company to ensure we can scale at the pace our merchants and our markets will demand. Let me walk us through some of the highlights of our Q3 ’23 results that are a testament to these statements.

We delivered another quarter of solid performance. TPV grew 69% year-on-year, reaching $4.6 billion, supported by our well-diversified merchant and geographic base. Revenue grew 47% year-on-year despite a strong devaluation of the Nigerian Naira in the quarter. If we exclude Nigerian revenue, growth came in at 58% year-on-year. We remain focused on achieving gross profit growth as our key metric. And in 3Q ’23, we attained $75 million of GP, increasing by 38% year-on-year and 5% sequentially. We’re still delivering best-in-class profitability. Our ratio of adjusted EBITDA to gross profit came in at 75% for the quarter, and our Rule of 40 framework, which adds our gross profit growth and our adjusted EBITDA over gross profit margin, continues to exceed 100%, coming in at 113% during the quarter.

Free cash flow, which you can reconcile in the accompanying presentation, was $45 million, with a cash conversion ratio that still remains above 100%. Our investments remained thoughtfully focused on expanding our global team and building the appropriate processes, tools and governance mechanisms to ensure our business grows efficiently and scales the right way. During Q3, our team grew by 155 FTEs compared to the third quarter of 2022 or by 22% year-over-year to 867 employees. Hiring were evenly allocated across the company as we have intensified ongoing efforts to strengthen support areas and further upgrade internal processes and tools, while maintaining our prior commitment to growing our engineering and sales teams. We continue to expand relationships with trusted financial partners, adding more globally, systemically important banks, pan regional and national market-leading banks for our processing, FX and hedging activities.

To place some data points behind this, and as is included in our quarterly presentation, 84% of all our foreign exchange transactions during the quarter were carried out via GSIBs and pan-regional or national banks, 7% via authorized broker-dealers, 6% via our payment processing partners, 3% via authorized net settlement to fund flows and 0.3% through alternative assets. Before I turn things back over to Maria, I’d like to share some additional news regarding key leadership changes within the company. Firstly, our Chief Financial Officer, Diego Cabrera Canay, has decided to step down from his position to pursue new opportunities. Diego has played a significant role in our financial success during his period at DLocal. He has agreed to stay on through Q1 of next year to help us ensure a smooth transition.

As one exec leaves, we’re also strengthening our team. Daiana Beitler will be joining us as Senior Vice President of Strategic Partnerships and Government Relations. Daiana comes to us after eight years at Microsoft and the Bill & Melinda Gates Foundation. We’ve also appointed Ricardo Breakwell as our Chief Accounting Officer. Ricardo joined the team after 12 years at Cielo, Brazil’s largest publicly listed merchant acquirer, leading their Accounting, Treasury & Control operations. I want to welcome both Daiana and Ricardo and wish Diego the best in his future endeavors. Let me now turn the call over to Maria to dive deeper into our business performance during the past quarter.

Maria Oldham: Thank you, Pedro. Hi, everyone. During Q3, we continued to see strong growth across all verticals. We highlight triple-digit growth year-on-year in our commerce platform, becoming our largest vertical since last quarter, as we continue to see strong traction through our platform solution for marketplaces, particularly in Brazil and Mexico. This growth was followed by ride hailing, up by 81%; streaming, up by 59%; and SaaS, up by 54% year-on-year. This quarter, we observed a lower growth in financial services vertical, increasing 23% year-on-year, driven by customer churn at two of our financial services merchants. In Q4, we anticipate sustained growth in the commerce vertical, driven by the festive season. In terms of product, during Q3 2023, pay-ins increased by 68% year-on-year.

Compared to Q2 of 2023, most of the growth came from pay-ins, which increased 8% quarter-on-quarter. Our pay-out volume remained stable quarter-on-quarter as we saw lower growth from our financial services vertical. Year-on-year growth was a very solid 73%. In terms of service mix, our cross-border and local-to-local volumes showed strong growth year-on-year, with the latter doubling year-on-year. Sequentially, we continue to see higher growth with our local-to-local volume, increasing by 10% quarter-on-quarter, while cross-border volume increased 2%. As a consequence, the share of local-to-local increased, reaching 51% in Q3 2023. In terms of geography, in Latin America, which is our largest region, we continue to experience sustained strong revenue momentum in Brazil and Mexico as we continue to grow with our existing customers and gain share of wallet.

Growth in both countries has been driven mostly by merchants from commerce, on-demand delivery, streaming and travel verticals. We saw lower revenues in Chile, mainly driven by the slowdown in the financial services vertical as explained earlier. In Argentina, we saw higher revenue driven by the widening spread between the official and the parallel exchange rate, while gross profits remained fairly flat, despite the devaluation in the quarter. We continue to see strong growth in other countries in Latin America, including Dominican Republic, Colombia and Guatemala. Our business in Africa and Asia continues to perform very well. In Q3, revenues in Africa and Asia increased 14% year-on-year despite being negatively affected by the devaluation of the Naira.

Excluding Nigeria, this region grew 79% year-on-year, mainly driven by Egypt, Kenya, Vietnam, South Africa, Philippines and Saudi Arabia. In Q3 2023, Nigeria revenues decreased by 39% year-on-year and 59% quarter-on-quarter. Continued strong growth of our diverse merchant base across multiple emerging markets translates into solid NRR, which was 141% in Q3 2023. We have built strong merchant relationships, and we have a tremendous opportunity to continue capturing more volume as our wallet share with our largest merchants is still low double digits. Diego will now review the financial highlights.

Diego Cabrera Canay: Thank you, Maria, and hello, everyone. As Pedro mentioned, I have decided to step down as Chief Financial Officer of DLocal to pursue new challenges. This is a personal decision that I have been discussing with the Board, and I believe now is the right time. It has been an honor to serve as the company’s CFO for the past three years, working with such talented individuals, and I’m very thankful for the trust and support of the Board and the senior management of DLocal. During the forthcoming four months, I will remain fully engaged and committed to facilitating a smooth handover process. I am confident in the company’s prospects and firmly believe that under the continued guidance of the Board leadership, DLocal will persist in its trajectory of growth and success.

With that, let’s get into the quarterly results. Revenues reached a record high of $164 million in Q3 2023, growing 47% year-over-year, while quarterly growth remained positive at 2% quarter-over-quarter, even after a particularly strong Q2. We remain focused on growing absolute gross profit dollars. Our gross profits reached $75 million in Q3, up 38% year-over-year and 5% quarter-over-quarter. Gross profit margin increased from 44% in Q2 to 45% in Q3, positively impacted by a higher share from Africa and Asia, driven by countries with higher-than-average gross margin and lower expatriation cost in Nigeria. Net take rate remains stable at 1.6%, showing our pricing power continues to hold steady despite continued TPV growth. Compared to Q2, we saw a positive contribution from the higher share of pay-ins and from certain countries in Africa and Asia with higher-than-average net take rate.

This was offset by the higher share of local-to-local volume. Profitable growth remains a top priority. During the quarter, we were able to grow our adjusted EBITDA to $56 million, up 34% year-over-year and 7% quarter-over-quarter. Adjusted EBITDA margin increased by two percentage points quarter-over-quarter to 34% in Q3. Our adjusted EBITDA over gross profit increased to 75% quarter-over-quarter. Net income totaled $40 million during the quarter, growing by 25% year-over-year. Sequentially, it decreased by 10% quarter-over-quarter. As detailed in the accompanying presentation, quarterly net income was negatively affected by the impact of Argentine devaluation on intercompany loans denominated in U.S. dollars, the inflation adjustment under IFRS and stock-based compensation.

This was partially offset by gains from hedge bonds acquired to protect from that devaluation. We also observe an increase in our effective income tax rate from 16% in Q2 to 18% in Q3. As a result of the country mix, with higher local-to-local share of pretax income and the non-deductibility of IFRS inflation adjustment. Moving to cash flow. During the quarter, we observed a strong cash flow generation of our own funds, mainly driven by our net income and also by the recovery of $20 million of the restricted cash we held as warranty for standby letters of credits, decreasing the amount of other assets to $28 million in Q3. We use part of our own funds to acquire an additional $50 million in Argentine dollar-linked treasury bonds as the final part of our investment plan for Argentina.

Merchant funds decreased quarter-over-quarter, mainly driven by a decrease in net trade payables, particularly due to a reduction in the settlement periods to certain merchants. As Pedro mentioned earlier, our net income to free cash flow conversion continued to be above 100%, with $45 million of free cash flow generated during the quarter. We believe that our strong cash position remains a competitive advantage as it allow us to continue investing in the business. Pedro, the floor is yours.

Pedro Arnt: Thanks, Diego. Everyone here at DLocal is proud of the strong set of results we’ve delivered year-to-date. We are reaffirming our outlook for fiscal year 2023 and expect to end the year in the upper range of the revenue guidance, between $620 million and $640 million and in the mid-range of the adjusted EBITDA guidance of $200 million to $220 million. We continue to be incredibly constructive about the growth potential that the company has. There’s plenty of more growth to come and opportunities to unlock across emerging markets. We have a massive long-term opportunity ahead of us, and we will continue to execute on it. Let me remind everyone, DLocal is only getting started. One last thought; I want to send a big thank you to our entire global team for the work done, to our customers and our investors for their continued support and trust in us.

And with that, let me hand things back over to the operator to open up for your Q&A, which Seba and Sergio will also be joining us to take. Thank you.

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Q&A Session

Operator: [Operator Instructions] Our first question comes from the line of Jorge Kuri with Morgan Stanley. Your line is open.

Jorge Kuri: Hi, everyone. Good morning. And congrats on the numbers and Diego best of luck in your future endeavors. I wanted to ask about the devaluation of the currency in Nigeria and the impact you had on revenues. I just want to make sure it’s clear how the FX impact is. I was of the understanding that the vast majority of your cross-border transactions, you were charging commissions based on the dollars appropriated or moved back to your merchant’s home base. And hence, as they continue to charge the same amount in dollars to their customers, their commissions will be affected by the devaluation, which seems to be the case. So you’re not really exposed to any FX movements on the cross-border transactions. And I believe that’s kind of like the way you portray the business, especially when people asked about Argentina.

And then in the local-to-local portion, I was of the understanding that you had hedges in place to make sure that your revenues were protected. And so I wanted to understand what exactly happened in Nigeria? Why are your revenue down 60%? And I guess it’s an important question also because we’re probably a few days, maybe a week from getting a big devalue in Argentina here with the changing government. And I also wanted to get your view on how that’s going to play out or what the potential impact to your business is? Thank you.

Diego Cabrera Canay: Hi, Jorge. How’re you? This is Diego. So, on Nigeria, overall, the impact of the conversion FX rates, as you remember, in May, I think it was basically the parallel FX rate and the official exchange of Nigeria compares, that was substantially neutral on our gross profit dollars in Nigeria. The only impact is on our gross revenues, as difference between the two exchange reduces, we have lower expatriation costs for taking those dollars out of Nigeria to our operating companies, and therefore, we charge lower revenues to our merchants. But on a gross profit level, that tends to be neutral. Just to give an idea, the impact on gross revenues is approximately compared to Q2 is $10 million more of revenues, if the FX difference in Nigeria would have been the same as in Q2.

But again, this is in gross revenues. On a gross profit level, it’s neutral. Our local-to-local business in Nigeria is very small and that didn’t have any meaningful impact. Argentina is a quite different economy. We have, as you know, everything hedged in Argentina, and we don’t have these levels of — most of our business in Argentina has always been an official rate. So we don’t have these levels of difference between official and the unofficial in Argentina.

Sebastian Kanovich: If I may complement — Jorge, Seba here. Thanks for your question. Our business in Nigeria today, it’s better than last quarter. At a gross profit level, this has been neutral. What you see is the smaller amount of revenue that we are booking. There also are smaller amount of cost that we are booking, and at a gross profit level, which is what we are keeping track of, this is neutral. Why do we keep track of gross profit? Because that’s a metric that indicates how much profit we are making from a merchant transaction. The other stuff we don’t control. We are fully hedged. So the declining revenue is not a part of us taking a loss, by no means. What happened is that the gap between the market rates and the official rates shrunk.

Therefore, the revenues we book are smaller. Also, the cost we book are smaller. And at a gross profit level, this is neutral to positive. The reason why I say we have a better business in Nigeria today than we did before, it’s because these market conditions are healthier and easier for our merchants to navigate. We need — or we are a better business when there is macro-certainty, and we believe that the steps that Nigeria have taken are positive. When we have merchant discussions, they welcome what has happened in Nigeria. It’s now easier to understand how the market operates. By the way, the same applies to Argentina. We are very optimistic on what’s to come in Argentina. This is not a political statement, by no means. But this is a view, our market having a clear set of rules should allow our merchants to invest more.

And if you look at our business, we continue to be indexed to the growth of our — this global merchants. So whenever there’s more clarity, our business tends to benefit.

Jorge Kuri: Thank you for that. And if I may just add a quick follow-up. Could you remind us on the financial services vertical, what are the main companies, if you can, that you’re operating for?

Sebastian Kanovich: Sure, Jorge. The ones that we’re able to mention are typically public companies listed in the U.S., companies like Worldpay, Payoneer, Flywire, where they essentially utilize our last mile to finalize transactions in emerging markets where they operate. These are typically customers that give us distribution to merchant segments that we’re going to be going after otherwise. For instance, Flywire onboards universities and hospitals, which are the type of merchants we typically go after, and that’s why we like those merchants. This is the partnership we have with this airports, which essentially sells to global banks. We made – long ago, we made [technical difficulty] that’s not the type of customer we want to pursue directly. And that’s why we have those partnerships in play.

Jorge Kuri: Great. Thank you very much.

Operator: Thank you. One moment for our next question, please. Our next question comes from the line of Tito Labarta with Goldman Sachs. Your line is now open.

Tito Labarta: Hi, good morning. Thank you all for the call and taking my question. A couple of questions actually, if I can. One, I guess, a little bit of a follow-up to Jorge, but more, I guess, on Argentina. Just I think, helpful just to go through the mechanics a little bit with devaluation in Argentina. I mean, revenues have actually come up this year a bit in Argentina. How should the devaluation impact revenues, specifically in Argentina? And I think there was also some impact related to inflation accounting. How should we take that into account going forward? And then my second question, I think, Pedro, we met a few months ago. You mentioned you were kind of reviewing the business would see if there were any additional investments that are needed.