MercadoLibre, Inc. (NASDAQ:MELI) Q4 2023 Earnings Call Transcript

MercadoLibre, Inc. (NASDAQ:MELI) Q4 2023 Earnings Call Transcript February 22, 2024

MercadoLibre, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Hello, everyone and welcome to the MercadoLibre’s Earnings Conference Call for the quarter ended December 31, 2023. Thank you for joining us. I’m Richard Cathcart, MercadoLibre’s Investor Relations Officer. Today we will share our quarterly highlights on video, after which we will begin our live Q&A session with our CEO, Marcos Galperin, Chief Financial Officer Martin de los Santos, Fintech President, Osvaldo Gimenez and Commerce EVP Ariel Szarfsztejn. Before we go onto discuss our results for the fourth quarter of 2023, I’ll remind you that management may make or refer to and this presentation may contain forward-looking statements and non-GAAP measures. So please refer to the disclaimer on screen which will also be available in our earnings materials on our investor relations website.

With that, let’s begin with a summary of our results. Hello everyone. I’m delighted to share that MercadoLibre delivered solid results in Q4 marking a strong conclusion and outstanding year. Overall, 2023 highlighted their strength of our financial model and it’s future potential as well as a powerful impact of compounding of several years of investment in technology. For our commerce business it was a year of accelerated growth and market share gains in most countries. We achieved this but continued to make improvements and the value proposition to buyers and sellers in our marketplace. I would like to highlight three important initiatives that contributed to our success in commerce. We continued to invest in having the widest product assortment in order to offer the best buying experience to consumers.

A key contributor to this was the acceleration of our first-party business, particularly in Brazil, where it grew by 81% in 2023. We continued expanding our logistic network with record fulfillment penetration of almost 50%, which provided an improved user experience to our buyers. This resulted in faster shipping and fewer late deliveries, particularly around the Christmas season. Our ads business continues to deliver impressive results, growing revenues at an accelerated pace. In 2023, we on boarded almost 50,000 new advertisers who appreciate the value of promoting their products on our parent regional platform. On the Fintech front, Mercado Pago maintained strong momentum as users and merchants continued to adopt our services. In acquiring business, we delivered solid TPV growth and gained market share in most countries where we operate, both in online as well as in-store payments.

We made improvements in approval rates and deployed new features that enabled us to move up market, enhancing the value proposition to SMBs. In Fintech services, we have expanded our product offering and made improvements to user experience. The increased engagement with our products resulted in Mercado Pago achieving the milestone of surpassing for the first time 50 million active users in a single quarter. The credit business continues to be an important piece of our Fintech strategy, and it delivered another quarter of strong results with accelerated growth and solid spreads as we continue to cautiously manage risks. During Q4, Meli delivered strong financial results. Revenues grew by 42%, accelerating both in Fintech as well as commerce due to the strong execution during the peak season and investments we made throughout the year.

For the quarter, we delivered a 13.4% EBIT margin, excluding one-off expenses from previous years as explained in the letter to share folders. This represents margin improvement from Q4 of 2022 while we continue to invest in building a logistic infrastructure, supporting our MELI+ loyalty program as well as expanding our credit card offering. Following our strong financial performance in 2023 it’s a good time to reflect on the journey over the past six years. During that time frame, we multiplied our revenues by 10x while achieving significant improvements in profitability, culminating in nearly $2 billion of operating income in 2023. In recent years, we have increased our investment in technology, which enabled us to launch multiple products and services and make significant improvements in user experience.

We have grown our development team by more than 10,000 in the last three years alone and currently have 16,000 engineers who are constantly working to create the best experience for our users. We remain committed to our technology-led strategy in order to continue delivering sustainable results for Meli. We enter 2024 with optimism about our growth opportunities and confidence in our capacity to continue to execute on our strategy. Now, back to Richard to share some product initiatives from 2023.

Richard Cathcart: As a technology company with more than 15,000 developers, launching products and features is at the heart of our business as we continue to innovate. Innovation is about new products and businesses, but it’s also about being attentive to and passionate about detail and solving multiple small customer pain points that compound into a great user experience. 2023 was no different. We’ve launched several new products and services such as the MELI Mas loyalty program, Meli delivery day, credit cards for consumers in Mexico and businesses in Brazil, amongst many other things. We’ve also vastly improved our core products with several new experiences that build onto our value proposition as we continue to strive to offer our users the best experience.

Today, we want to share some of this year’s highlights. In commerce, we continue to look at the specific needs of each vertical to improve the user experience as we believe this will drive offline consumption online. In 2023, we considerably improved the navigation in fashion, apparel and sports with standardized filters across brands and sellers. This enables consumers to find what they need more quickly. On the product pages, users can also see the more like this section to find similar items to a product that the user has clicked on rather than simply going back to the search results. This feature is powered by artificial intelligence. AI-based features are already an integral part of the Meli experience with many innovations launched in 2023, including a summary of customer reviews on the product pages that concentrates the main feedback from buyers of that product.

On beauty product pages, a summary of products, functions and characteristics is automatically created that facilitate buyer’s choices. Push notifications about items left unpurchased in shopping carts are now highly personalized and remind users why they may have chosen to buy a particular product. We have also added an AI feature that helps sellers to respond to questions by preparing answers that sellers can send immediately or edits quickly. To deliver a better experience to our sellers, we launched a new version of the seller hub where they can see all of the promotional campaigns available for them to participate in. A new pricing tool also enables sellers to easily compare prices with competitors and or similar products and receive insights and recommendations on how to boost sales.

In 2023, we also re-launched our ads tech stack. An automated buying platform was launched for display ads accompanied by live reports and unique insight analysis. We enhanced our bidding algorithm for product ads and introduced new placements on search and product pages that give more visibility to sponsored products. Our brand ad solution was also launched as a mid-funnel campaign option to enhance consideration for brands. Our platform also now includes a feature for agencies to be able to manage different brands through the platform. Brands, sellers and official stores can delegate certain products or even the whole assortment to a specific agency. The agencies are now available to manage all accounts delegated to them in one place. And to expand the possibilities given to advertisers, a new pool of custom audiences was launched and later expanded enabling advertisers to use filters to create an infinite combination of audiences for their campaigns.

Finally, in advertising, MELI Play was launched as an ads-based streaming platform. Through a revenue share model with studios, we were able to offer free content to our users across the region enabling us to explore a new revenue stream for ads. In logistics, most of the technological improvements were behind the scenes and were crucial in helping us to maintain costs broadly stable as a percentage of GMV whilst expanding fulfillment penetration. We optimized routes from first to last mile, fulfillment-centered processes and demand prediction. On the UX front, buyers are now notified that their package is being delivered and can follow it through their app. And for sellers that adopt fulfillment, an enhanced tool to manage inventory brings more technology to the process flagging products that need to be replenished, how many units should be sent to us, amongst other things.

At Mercado Pago, we continue to innovate as we consolidate our position as one of the region’s leading Fintechs. In the acquiring business, the launch of the Mercado Pago tap brings a free POS option to merchants by turning their cell phones into a tool to receive payments via NFC technology. We also improved the pairing process of mobile POS devices with merchants’ cell phones and worked behind the scenes to reduce processing times, which had a positive impact on NPS and helped to improve the experience of merchants and buyers. With more personalization in the Mercado Pago app, our seller homepage now prioritizes the features that merchants most need on a day-to-day basis. In Fintech services, we continue to search for ways to facilitate financial inclusion.

We expanded our credit card offer to Mexico and launched our collateralized credit card solution in Brazil where the user receives a credit limit equivalent to the value of funds deposited into their account. These products enable consumers to start building a credit score and take advantage of the possibilities that a credit card brings for many for the first time ever. Innovations in credit enabled us to attract new users. For merchants, we now offer a business credit card using Open Finance to contribute to scoring. For consumers in our lower-risk cohorts, a new product enables them to opt for larger, longer-duration loans in our app, personalizing the loan to their needs and expanding the use cases of our credit product. As our product stack expands, we have focused on facilitating and simplifying navigation around all of the different products available on Mercado Pago.

Our digital account homepage combines the most used features, such as transfers, credit limits, investment positions and insurance, adapting to the user’s profile. We have seen increased traffic to all of our key digital account products as a result. Digital account users in Brazil can now see a summary of their monthly activity on a personalized report, an enhancement that brings more information to the user about their finances. The report also highlights new offerings that may be useful to the user, such as our certificates of deposit and investment funds, alongside credit products and our remunerated account. All of the innovations offered by MercadoLibre and Mercado Pago continue to have a deep, intrinsic impact in Latin America by generating economic and financial inclusion for entrepreneurs and individuals.

A recent report in partnership with Euromonitor shows that MercadoLibre is the main source of income for 1.8 million families in the region and that for 54% of users in the region, Mercado Pago was the first digital payment method available to them. This was just a snapshot of the innovations delivered by our teams in 2023. In 2024, our users can expect even more because there’s always a MercadoLibre. The best is yet to come.

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Q&A Session

Operator: Thank you. [Operator Instructions] Our first question comes from a line of Andrew Ruben of Morgan Stanley. Your line is open.

Andrew Ruben: Thanks very much for the detail and for the question. I’d like to dig in a bit on the logistics network. We see that the net shipping fees and some of the shipping costs looks like it was a bit more of a drag than in recent quarters. So I was wondering if you could help with what changed sequentially, whether it was more seasonality or if there’s been, let’s say, sequential changes in investment areas such as shipping campaigns or DC builds in the quarter. And then perhaps zooming out a bit on the logistics network, how you think about the state of the network, where you are for shipping fees, and how you think about the intensity of investment in those areas for the year ahead versus 2023. Any comment there would be very helpful. Thank you.

Ariel Szarfsztejn: Okay. Through compared to last year, lower delay rates, more fulfillment penetration, particularly in Brazil, and more free shipping coming from Melimise together with a network that has expanded over the year and particularly in Q3. So going to your specific question about margin compression or sequential margin compression, we also experienced some cost pressures during Q4 that you will see reverted in early Q1. And basically those headwinds in Q4 come mainly for the following reasons. Number one, this is the first quarter in which Melimise has been fully operating. And that means that we have increased the level of free shipping offered in Brazil and Mexico. I think we’ve discussed before Melimise is a strategic and long-term investment that we think will continue increasing loyalty and driving incremental orders and GMB.

So it’s a conscious investment on our part. Second, I think the growth of 1P in our business, who’s GMB was 50% higher quarter-over-quarter in dollars also acts as a headwind basically because there are no sellers paying for shipping revenues given that we are the sellers in the case of 1P. I think that’s going to point number three. In previous quarters, we flagged that some of the shipping gains in terms of take rates were due to the negotiated postponement of cost increases from our suppliers after already having passed through higher prices to seller at the start of the year. And those costs are now hitting our P&L as we were expecting. And on the fourth, I think Argentina also added some pressure as we decided not to fully pass inflation through to our prices on the spot in an environment with accelerated inflation and a lot of uncertainty in the market.

Of course, then you have peak season, which is the biggest component of the sequential compression of shipping costs. There is ramp up in capacity to be able to attend demand coming from our buyers. There is also an increase in unit costs coming from labor hours and bands and truck drivers, etcetera. And that is the biggest component of the sequential compression, which you will see probably reverted in early Q1 in 2024. Finally, and just to wrap up on this first part of the question, it’s also important to note that we were expecting most of these increases in cost, and that is one of the reasons why we decided to increase our flat fees. So the charge that we make to the sellers when they sell items below the free shipping threshold. If you recall, we increased that fee in Brazil in approximately July or August, and we did the same in late Q3 in Mexico.

And this is one of the levers we have used to manage our shipping P&L as well. And it’s a good example of how we manage the profit and loss of the company in a consolidated manner and not on a line-by-line basis. So to your second part of the question, I think, as we’ve been saying many times, in the long run there will be opportunities for us to continue monetizing our logistics network. We are not desperate for that. We think long-term not only in monetization, but also in remaining competitive in terms of prices to our buyers and to our sellers, and we are conscious on how to execute around that opportunity.

Andrew Ruben: Very helpful, color. Thank you.

Operator: Thank you. One moment, please. Our next question comes from Irma Sgarz of Goldman Sachs. Your line is open.

Irma Sgarz: Hi. I hope you can hear me well. Connectivity has been a bit patchy. I have two very quick questions. Firstly, on Mexico, sequentially the margin was a little bit lower into the fourth quarter, which is obviously to be expected given the seasonality. But 1P, I think, plays less of a role here. So I was wondering if you could just elaborate on the drivers here. I imagine some of the logistics capacity ramp-up has to do with that. But is there anything else that we should be mindful of? And then on the commerce take rate, this builds a little bit on the earlier question, but we also noticed that there was a sequential decline quarter-over-quarter. And it is just basically sort of a reflection of and I’m excluding 1P here but is that just mostly really a reflection of category mix and logistics?

And is there anything else at play that we should – in the revenues and shipping revenue dynamics that you just described – that we should be mindful of, especially as we look into 2024 and think about this line, whether there should be further compression coming into the commerce take rate? And maybe, sorry, if you can also add to that the influence that lower funding cost of rates that should be positive for the take rate. But I don’t think we saw much of an effect, if I’m not mistaken. So if you could just also speak to that. Thank you.

Ariel Szarfsztejn: Hey, Irma. Ariel here again. So on Mexico’s sequential compression, I think you were spot on with some of your hypotheses. And it relates to what I was explaining before. So everything that I just described about operating in peak season with building capacity before the event and increasing unit costs is actually more complex in Mexico for two reasons. On the one hand, in Mexico, during Q4, we opened three fulfillment centers and one cross-docking station, big cross-docking station. As we’ve been pointing out over the last few quarters, we have a capacity constraint there that we need to fix. And of course, whenever you open new warehouses such as these ones, the ramp-up process is a bit costly. And that’s part of what has happened over the quarter.

Secondly, our existing warehouses were operating at maximum capacity. And that also puts an extra pressure in terms of productivity for our fulfillment operations. So in the end, there’s nothing that we were surprised about. We are managing the cost and the performance of the network. But we think we are in good shape for the future. So no comments on the second part of the question on some things that you should expect or that we should call out there.

Martin de los Santos: Irma, it’s Martin here. Regarding the funding cost being lower, it should benefit the credit business, of course, because it lowers the cost of funding for that operation. So that should improve NIMAL. And it also should help us on both the commerce side as well as the Fintech side, because it lowers the cost of discounting coupons. So that should result in improvements in margins.

Ariel Szarfsztejn: So probably, let me be clear on that, Martin. Probably, you will see more of an impact with regards to the marketplace, where the fee we charge for including installments is fixed on the Fintech side of business, on the acquiring side of business. Many times when the funding cost is lower, we end up passing some of those savings to consumers. And that is not as straightforward in the marketplace. Thank you, Irma.

Operator: Thank you. One moment, please. Our next question comes from the line of Robert Ford of Bank of America. Your line is open.

Robert Ford: Good evening, everybody, and congratulations on the quarter. I was curious, how should we think about service transfer pricing and the recurring tax impact on profitability? And when it comes to advertising, how should we think about ad penetration rates in 2024 and the receptiveness of the product stack with larger display advertisers now that they’ve had time to really understand the product and maybe build their budgets coming into this year?

Martin de los Santos: Hi, Bob. I think you’re referring to the withholding, the incremental withholding tax that we started booking this quarter, as we explained on the short-hold letter. I think if you, obviously, it’s a big charge, and this is the reason why we excluded from the results, to explain results, because it generated a big distortion in Q4 results. That’s to put in perspective a full charge of roughly $350 million. Only 6% of that corresponds to this particular quarter. The way to look at that is by roughly, I would say, $20 million incremental cost per quarter will resolve for this incremental tax that we’re going to be starting to provision from now on. Just to complement that, keep in mind that the $350 million one-off charge were fully funded because throughout the last 10 years, we’re funding a judiciary account with those amounts.

So if in the event that we lose this case, we will continue disputing it, the event that we lose it, it will not have a material cash impact on our results. So in summary, I think it’s about $20 million per quarter, the impact going forward.

Ariel Szarfsztejn: Bob, this is Ariel. So going back to your question on advertising, I think, start by saying that we are extremely pleased with the ad result from the quarter. Our revenues grew 72% year-over-year on an FX neutral basis. It’s the seventh consecutive quarter going above 70%, and that’s driven mainly by Brazil and Mexico. I think as we mentioned in our shareholder letter, we added 53,000 new advertisers this year, and this is a great achievement and shows how strong the level of interest in our product is today, and we expect to build on that in the coming quarter. On sequential penetration, I think while ads continue to grow at a very fast pace, GMV accelerated at an even faster pace this quarter, and it is the case that ad revenue does not necessarily follow one-to-one the growth pattern of our GMV.

Particularly during Q4, our GMV accelerated from 59% growth in Q3 to 79% in Q4, and it’s worth maybe highlighting the case of Argentina, which represents 20% of our GMV, but only around 10% of our ad revenue. That’s the main offender for sequential penetration. In such a high inflation context, the lack of stocks in the seller hands disincentivized some of the ad investments, and simultaneously, advertisers were not necessarily updating their investment amounts together with their item prices, and for that, we did already deploy some features that automatically update ad budgets whenever there is an inflationary context in item prices. So, as I was saying before, we remain extremely confident in our product stack, and we see ample opportunities for growth in the coming years.

Regarding display, it’s been not so long for our current product format to be live, and we are going through the learning curve in terms of go-to-market strategies, as well as the brands are still learning about branding possibilities in MercadoLibre. So, we believe in the product that we have, in the value proposition we are offering with display ads as an awareness tool for one of the largest audiences in Latin America, but we need to be patient, and we think that we can continue building on the product we have to gain even more traction and make a display an even bigger business for MercadoLibre and for our sellers.

Robert Ford: A very helpful idea. Thank you so much.

Operator: Thank you. One moment, please. Our next question comes from the line of Kaio Prato of UBS. Your line is open.

Kaio Prato: Hey. Good evening. Thanks for the opportunity. So, I have one question on the credit portfolio, please. I saw your origination was much higher this quarter, and you mentioned that your own credit card is one of the most used in your platform, I think among the five most used. So, I just would like to have a sense about how much of this origination is coming from the credit card, and how are you seeing the contributions specifically of the credit card in your GMV today? In other words, what’s the level of GMV penetration today versus one year ago? And finally, what makes you comfortable with the credit card origination today? Because we are already seeing some spike in short-term NPLs, which is attributed to this product. Thank you.

Ariel Szarfsztejn: Hi, Kaio. Let me start by the end, and then I’ll go back to the first questions. With regards to what makes us more comfortable, we first launched credit cards in Brazil three years ago, and we have been iterating the models we use to score grades. We have done many iterations, several every year. And each iteration we do, we get better results. We saw the credit situation overall in Brazil worsened a year and a half ago, two years ago. So we were more cautious. And now, throughout last year, we started feeling more and more comfortable, and we have been increasing the amount of origination in Brazil. And also, we launched a credit card in Mexico, and we’ve been, I would say, aggressive in rolling it up. When we look at, as we say in the shareholder letters, when we look at total payment volume for our credit card, year-over-year, it has grown well above 100%.

So we have been aggressive with regards to that. In terms of portfolio, there has been high origination. We have not disclosed the origination amount, but we have disclosed the total portfolio. And you can see how the chunk coming from the credit card is growing. It has reached $1.2 billion, which is nearly 100% growth versus a year ago. And on top of that, I would say that the credit card is growing in exactly the way we expected it to grow. We are expanding in the lower segments and also starting to have a little more traction in the higher segments. And the penetration we see in the marketplace is growing in Brazil and in Mexico. And most importantly, when we look at the total penetration of credits in the marketplace, which adds our consumer loans and our credit card is growing significantly.

So it’s not that we are cannibalizing consumer loans with a credit card, which has probably lower profitability per transaction, but rather that we are adding to that number.

Kaio Prato: Okay, thank you. Can you share the level of penetration nowadays in your platform?

Ariel Szarfsztejn: I would say this is, we have not disclosed the precise level. We can disclose that this is the largest means of payment we have today in Mexico.

Kaio Prato: Okay, thank you very much.

Ariel Szarfsztejn: Credit, I mean, no total payments. All of the credit products available are on credit and credit card is the largest one.

Operator: Thank you. One moment, please. Our next question comes from the line of Maria Infanto. Your line is open. Pardon me, Maria Clara Infanto. Your line is open.

Maria Clara Infantozzi: Hello, everyone. Good evening. Thanks for taking my question. So I would like to explore the profitability of the 1P operations in the release you mentioned that you achieved better profitability trends, despite the seasonality of the business in the fourth quarter. So can you please give us more granularity on how the contribution margin of the business has been evolving lately? We feel that the accelerated growth of the category has been allowing you to have better negotiations in terms of suppliers. And how do you feel about the growth potential of the channel going forward? How far are we from reaching an optimum stability level in the division? Thank you.