Arco Platform Limited
Q1 2019 Earnings Call Transcript

Published: 22 May 2019

[Operator:]

Good day, ladies and gentlemen, and welcome to Arco First Quarter 2019 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later we will conduct the question-and-answer session and instructions will follow at that time. [Operator Instructions] As a reminder, this call will be recorded. I would now like to introduce your host for today’s conference Vitor Hiraiwa, Arco IR Director. You may begin.

[Vitor Hiraiwa:]

Thank you. I am pleased to welcome you to Arco’s first quarter 2019 conference call. With me on the call today is, Arco’s CEO, Ari de Sá Cavalcante Neto; and CFO, David Peixoto dos Santos. During today’s presentation, our executives will make forward-looking statements. Forward-looking statements generally relate to future events or future financial or operating performance and involve known and unknown risk, uncertainties and other factors that may cause our actual results to defer materially from those contemplated by these forward-looking statements. Forward looking statements in this presentation includes, but are not limited to statements related to our business and financial performance, expectations and guidance for future periods or expectations regarding our strategic product initiatives, and the related benefits and our expectations regarding the market. These risks include those set-forth in the press release that we issued earlier today, as well as those more fully described in our filings with the securities and exchange commission. The forward-looking statements in this presentation are based on the information available to us as of the date hereof. You should not rely on them as predictions of future events and we disclaim any obligation to update any forward-looking statements except as required by law. In addition, management may reference non-IFRS financial measures on this call. The non-IFRS financial measures are not intended to be considered in the isolation or as a substitute for results prepared in accordance with IFRS. We have provided a reconciliation of this non-IFRS financial measures to the most directly comparable IFRS financial measure in our press release. Let me now turn the call over to Ari de Sá Cavalcante Neto, Arco’s CEO.

[Ari de Sá Cavalcante Neto:]

Thanks, Vitor, and thanks everyone for joining Arco’s first quarter 2019 conference call. Today I will provide highlights for the first quarter and discuss the recent acquisition of Sistema Positivo De Ensino. Next, I will turn it over to our CFO, David, who will walk you through our financial performance and then we will open the line for Q&A. For those who are new to our story would like reinforce our reconciliation to analyze Arco on its annual basis. Since our revenues are 100% subscription based, we operate under the annual contract value or ACV metric. ACV is calculated by multiplying the number of enrolled students at each partner school by average ticket per student per year. As a result, we have high predictability of our revenue on an early basis but revenue can vary between quarters. The amount of revenue recognized is proportional to the amount of contract made available which is not literally distributed among the quarters and also depends on our customer decision on when to receive the contract. Now on to our Q1 results. Net revenue was R$117.1 million above our expectations for the quarter representing 27% of 2019 ACV versus our guidance of 22% or 25%. We are on track to reach the ACV 2019 of R$441 million. Moving to M&A, let me give you a quick recap of our strategy that is on the Slide 5 of our presentation. It is divided into three areas. First, expand our network of schools. We believe that school is a cornerstone in children's education and should become the center of the learning experience, offering both core and supplemental solutions to improve students' outcome. Therefore, increasing our number of partner schools is essential to driving this business, and M&A is an accretive and fast way to achieve this objective. Second, expand our product offering. It is important to have high quality content with technology to offer to the schools. Most of the schools don't have the content or the methodology to build a pedagogical curriculum. That's where article can make a difference and become a mission critical partner by offering high quality content and methodology embedded with technology and supported by brands with strong legacy indicators to our segment. Once you have a large network of schools it becomes easier to offer new solutions that could fit their needs. Third, deliver value-add technology features. We believe there are several opportunities to impact students' learning experience with technology as well as provide additional services to schools. This drive to continuous look for innovation is key to staying ahead of the competition and evolving our products. On our last call we announced the acquisition of Sistema Positivo de Ensino, a highly regarded brand with more than 40 years of history in education. Positivo will give Arco more firepower and scale to continue to invest in content and technology. We are accelerating our growth rate by adding 698,000 students distributed across 3,400 schools, adding complimentary brands with different price points and regional footprints. The acquisition is subject to the antitrust regulatory approval. We have already started to plan the integration of Positivo. We are working with strategic consulting companies to help us with the process. Over the last years we have been able to build a strong pipeline of talented people, especially after the IPO. Additionally, since Positivo’s business model is the same as Arco’s, we believe that we can share best practice and long knowledge to improve Positivo’s operation, products and technology. Following the acquisition, our student base will be 1.2 million students, normally three times higher than our student base at a time of the IPO distributed amongst 4,800 partner schools. With a student base and a network of schools off this size, there's a lot we can do. We can increase our product offering more efficiently, bring scalable technology to partner schools and students and collect feedback from a broader network of students and teachers to continuously improve our solution. And our mission goes far beyond our current solutions and numbers. There are still a lot of opportunities to innovate and positively gain back the learning experience of the students. With that, I'll turn to David so we can discuss the financials.

[David Peixoto dos Santos:]

Thank you, Ari. We are pleased with our first quarter performances and excited about the recently announced acquisition of Sistema Positivo de Ensino. It’s in line with our M&A strategy as we increase our network of schools, while complementary our rents that we will increase our product offering. Before we dig into numbers, please note that, except for revenues, gross margin, selling expenses, G&A and all the financial measures I discussed are non-IFRS and growth rates are compared to the prior year comparable period, unless otherwise stated. I will review our first quarter results and provide guidance for the ACV recognition for the second quarter of 2019 and EBITDA margin for 2019 fiscal year. So now let’s take a look at the numbers. Net revenue for the first quarter of 2019 was BRL 117.1 million, which represented 26.6% of the 2019 ACV versus 35.3% in the same quarter of the last year. Due to mix, the revenue recognition may vary among quarters, but with no impact in the total ACV. We are on track to reach the 2019 ACV of BRL 441 million by the end of the third quarter of 2019. Gross margin was 81.3% for the first quarter versus 77.3% for the same period in 2018, and it’s in line with our historical trends of increasing gross margins. Selling expenses for the first quarter of 2019 was BRL 36.1 million, a 49% compared to the 2018 in the first quarter when we have BRL 24.3 million. Quarter-over-quarter, selling expenses increased 3%, that’s mostly because our higher in-force to recruit new hunters happened during the fourth quarter of 2018. As mentioned on our previous call, we will continue to invest in selling expenses as part of our strategy to gain market share year-over-year. G&A expenses was BRL 10.8 million up 52% compared to BRL 13.7 million for the first quarter of 2018. Quarter-over-quarter, G&A was down 5% since we were able to call most of that needed improvement since the IPO. And as we mentioned in previous conference call, G&A expenses increased due to higher headcount in our expenses related to being a public company, such as consultant services, lawyers and listing fees. Unlike selling expenses, the investments in G&A were mainly a result of the IPO process, and we have expanded our internal resources and created new functions to match the publicly listed company in the U.S. Adjusted EBITDA was Adjusted EBITDA was BRL 48.9 million for the first quarter of 2019, down 16%. The main factor driving the year- over-year comparison is the proportion of revenue recognized in each period. In the first quarter of this year, we recognized only 27% of the ACV, while in the same period of 2018, we recognized 35%. We are on track to achieve adjusted EBITDA margins of 35.5% to 37.5% in 2019. Now to the guidance. For the second quarter 2019, we expect to recognize 24% to 26% of the ACV 2019, which equates to revenue in the range of – from BRL 106 million BRL 115 million. Also we expect our adjusted EBITDA margin for the full year 2019 to be in the range of 35.5% to 37.5%. And with that, I would like to turn the call back over to the operator for today. Operator?

[Operator:]

Thank you. [Operator Instructions] And our first question comes from Diego Aragao with Goldman Sachs. Your line is open.

[Diego Aragao:]

Yes. Hi, thanks for taking my question and congrats on the results. First question, if I may, just want to understand the main reasons for the higher-than-expected revenues recognized in the fourth quarter. I mean, if I'm not mistaken, revenue win in the first quarter would represent roughly 27% of our ACV, or of your ACV for 2019, and you were guiding this 25%. So well above the top of the range. So can you comment on what drove the beat? And whether this would have implications for the business with regard to the year? Thank you.

[Ari de Sá Cavalcante Neto:]

Thank you, Diego. Sure. I mean, as we used to say, and we have been constantly repeating this in the last earnings calls, we recommend to analyze our business on an annual basis since we have recurring revenue and the revenue recognition, it relies on sometimes the client's decision because it's related with the content that is made available for our partner schools, and this content is not digitally distributed among the quarters. So, it also depends on the customers decisions to when we receive the content and the amount that we expected to recognize in this quarter as we sat in the last one that the guidance, it was the best estimate that we had at that time, but this fluctuation should happen, that's part of the nature of the business, but the ACV remained the same, and we are on track to reach the ACV 2019 of BRL 441 million.

[Diego Aragao:]

Okay, that’s helpful. Thank you. And the second question, look, as the year progressed, I understand that schools are already signing up and starting to renew their contracts with Arco. So my question is, when exactly you shift your focus to building up the ACV book for the next year from delivering the ACV bookings for the current year? For instance, when you start to worry about building of the numbers for 2020? Is that of delivering the contact top line in 2019? Thank you.

[Ari de Sá Cavalcante Neto:]

Okay. Thank you, Diego. I mean, our team is on the field. As we said before, we have more hunters better than last year, we did in the end of 2018, So the hunters are already on the field and – but it's too early to tell any guidance or estimates for that year and I believe that, that's also important for the benefit of the company and the investors, it's too early to share this. So actually the ACV in most of this is in the second semester. So we believe that any kind of projection at this time, would be not precise.

[Diego Aragao:]

Okay, thanks.

[Operator:]

Thank you. [Operator Instructions]. And our next question comes from Roberto Otero with Bank of America Merrill Lynch. Your line is open.

[Roberto Otero:]

Hey guys. Thanks for taking my question. Just have a follow-up regarding Positivo. Actually two questions, if you could just make a quick recap on the unnecessary regulatory stats to be accomplished and when do you expect its full conclusion? And also you mentioned, you hired a consulting firm to help you run the integration. So I mean, if you could just share with us preliminary how long do you think this integration may take, maybe how complex do you think it will be given the size of the company? And based on your past M&A experience, what is usually the most complex part of such integration process? That’s pretty much it.

[Ari de Sá Cavalcante Neto:]

Hi, Otero. Thank you for your question. So regarding the first part of the question, the only antitrust – the only approval that we are waiting for is the antitrust approval. But we are – which is the CADE, which probably you are familiar with. We have just started to working with this. So it’s also early to tell when the decision is going to come, and we will work very closely with them to do it as soon as possible, but you have to wait it’s early to tell from expectations. Regarding the integration process, we will have just started to work with this consulting firms. So it’s also early to tell any detailed plan for this integration, but we do expect to share with you more color in the next earnings results when we have more time to work with the team and then we can share with you more color.

[Roberto Otero:]

Great. Thank you.

[Operator:]

Ladies and gentlemen, that’s all the time we have for questions. I would like to thank everybody for participating in today’s conference. This concludes today’s program. You may all disconnect. Everyone, have a great day.