PagSeguro Digital Ltd. Class A Common Shares

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To do all of this, switch to PagBank and download the... Good evening, my name is Carolyn and I will be your conference operator for today. Welcome to PagSeguro Digital earnings call for the third quarter 2023. At this time, all lines have been placed on mute to prevent any background noise. Should any participant need assistance during this call, please press star zero to reach the operator. This event is also being broadcast live via webcast and may be accessed through PagSeguro Digital's website at investors.pagbank.com. Participants may view the slides in any order they wish. Today's conference is being recorded and will be available after the event is concluded. I would now like to turn the call over to your host, Eric Oliveira, Head of IR. Please go ahead.

Hello, everyone. Thanks for joining our third quarter 2023 earnings call. After the speaker's remarks, there will be a question and answer session. Before proceeding, let me mention that any forward-looking statements included in the presentation or mentioned on this conference call are based on currently available information and PagSeguro Digital's current assumption, expectations, and projections about future events. While PagSeguro Digital believes that the assumptions, expectations, and projections are reasonable in view of currently available information, you are cautioned not to place undue reliance on these forward-looking statements. Actual results may differ materially from those included in PagSeguro Digital's earnings presentations, or discussed on this conference call for a variety of reasons, including those described in the forward-looking statements and risk factors of PagSeguro Digital's most recent annual report on Form 20F and other filings with the Secured Exchange Commission, which are available on PagSeguro Digital's investor relations website at investors.pagbank.com. Finally, I'd like to remind you that during this conference call, the company may discuss some non-GAAP measures, include those disclosed in the presentation. We present non-GAAP measures when we believe that the additional information is useful and meaningful to investors. The presentation of this non-GAAP financial information, which is not prepared under any comprehensive set of accounting rules or principles, is not intended to be considered separately from or as a substitute for our financial information prepared and presented in accordance with IFRS as issued by the IASB. For more details, the foregoing non-GAAP measures and the reconciliation of these non-GAAP financial measures to the most directly comparable IFRS measures are presented in the last page of this webcast presentation and early release. With that, let me turn the call over to Ricardo. Thank you.

Hello, everyone, and thanks for joining our third quarter 2023 earnings call. Once again, I have the company of Alex, our CEO, and Arthur, our CFO. Going to slide three, I'm happy to announce in Q3 2023, we have reached the largest net income, both gap and non-gap, in the history of the company. In the past years, we have successfully managed the impacts related to the high interest rates for a longer period, while reshaping our funding structure backed by deposits. More recently, we have been seeing better operating trends in our volumes, combined to Brazilian interest rate decrease, which should positively contribute to our funding strategy to keep delivering growth with profitability. Our known gap net income reached R$ 440 million, growing 7% year-over-year. Despite our increasing footprint in merchants larger than long tail, a creative to gross profit besides lower take rates, our margins continue to improve, resulting in R$ 894 million EBITDA, reaching the highest margin since Q3 2021. Total revenue was flourished year-over-year and grew 5% quarter-over-quarter, reaching $4 billion. Discipline CapEx deployment resulted in $10.6 billion in net cash balance in the end of the quarter, 17% higher than previous year, driven by 36% growth in cash earnings versus Q3 2022. Going to the financial services session, we have continued our credit underwriting journey, constantly improving our risk management models. We have been exploring new addressable markets by offering collateralized products, and despite the interchange cap impacting our revenues from financial services division, revenues posted a quarter-over-quarter growth, and EBITDA was positive again, reaching 2 million reais. PagBank cashing was 56 billion reais, driving up deposits to the all-time high level, reaching 21.6 billion reais, reinforcing the closed-loop advantage backed by a comprehensive set of payments beyond cards accepted, while lowering companies' cost of funding. In payments, we keep growing in a profitable way, and our TPV reached almost 100 billion reais, 11% year-over-year growth. Going to slide four, our focus on new technologies and product developments continuing in 2023. In this slide, we share the main milestones of our company. In October, our company executed its first transaction using Drax, the Brazilian digital currency through the blockchain platform, embracing the digital assets revolution. This month, we just announced the facial authentication, a feature for clients aiming to use our payment link option, reinforcing our security procedures while improving user experience and confidence. On payments, we announced our tap-on-phone solution, fully embedded in PagEvents app, our proprietary ERP software with more than 1 million users. We also launched our collection platform, a comprehensive set of payment solutions, covering card acceptance, PIX QR code, and bullet issuance, empowering merchants to accept all payment options. On financial services, in addition to products launched for consumers, such as investment options, debit cards, and so on, we also launched products focused on SMBs and larger merchants. This year, we have launched our payroll solution, allowing entrepreneurs to manage their employees' paychecks in a seamless way, and we also launched our PagBank business account that allows direct deposits from third-party acquirers into PagBank accounts. Now, I pass the word over to Alex for the commentaries on the third quarter 2023 operational highlights.

Thank you, Ricardo. Hello, everyone. We show on slide five that our merchant acquiring business remains solid and through the combination of our superior value proposition and the broad reach of our sales channel, we have been able to accelerate TPV growth faster than the industry, driven by our merchant segments. TPV reached almost 100 billion reais, growing 11% year over year. We continue to observe better TPV growth through the first weeks of the fourth quarter. MSMB TPV posted 15% growth versus third quarter 2022, primarily driven by SMBs, followed by micro-merchants. As Ricardo mentioned earlier, we also noted a rebound in TPV growth from large accounts, which is composed by merchants with TPV above R$500,000 per month. Moving on to slide six, the instant and prepaid product, which combines payment service and financial service through PagBank account, has promoted an increasing footprint in larger merchants, resulting in 22% year-over-year growth in TPV per merchant. Our strategy to focus on disciplined CapEx deployment did not interfere in our POS sales uptrend. In August, we presented the record POS sales level since January 2022 with the highest POS activation rate since mid-2021. Consequently, we reached 6.7 million active merchants. At first glance, the net merchant's loss has been raising concerns about our ability to grow our business and revenues. However, When we consider active merchants with at least one transaction in the past 30 days, excluding non-merchants, the positive trend is revealed, supported by our TPV growth rebound in all segments and the improved cash earnings generation. Peg Bank clients grew 16% year-over-year, surpassing 30 million clients, placing us among the most relevant Brazilian financial institutions adding more than 4 million new clients in the past 12 months, as shown on slide 7. Our active client base reached 16.7 million clients, leading to 56 billion reais in PagBank cashing, composed by PIX and P2P wire transfers in flows into PagBank accounts from other financial institutions. Combined, TPV and Peg Bank Cash-in led deposits up 11% compared to the third quarter of 2022 and 18% quarter over quarter, reaching a record of R$21.6 billion. This deposit level was boosted by our AAA rating attributed by S&P Global, which enhanced our CD distribution among institutional and retail investors, on and off platform. Checking accounts balance, the cheapest funding source, and a key performance indicator to measure client engagement grew 43% year-over-year, driving down our annual percentage yields to 93% of the CDI. Slide 9 shows that our credit portfolio reached 2.5 billion reais due to our ongoing runoff of the working capital loan portfolio, combined to the tax planning write-off of non-performing loans started in the last quarter. Payroll Loan and FGTS already accounts for half of the portfolio, expanding our offerings to consumers primarily through a seamless experience and a cheaper cost structure. Our go-to marketing strategy for secured loans is based on competitive APRs and a digital end-to-end onboarding, risk assessment, underwriting, and collection. This also includes our offering of credit cards backed by investments and savings. The total credit portfolio share composed by Secure Products reached 60%, resulting in the ongoing downtrend in NPL 90 plus to 10.7%. Now I turn over to Arthur for the financial highlights of the third quarter of 2023. Arthur, please.

Thanks, Alexandre. Hello, everyone, and thank you for joining us in the call. This quarter, I am proud to announce all-time high net income gap and non-gap.

Total revenue and income grew 5% due to TPV growth and gross profit grew 3% on quarterly basis. Also positively impacted by lower losses and higher level of deposits that reduce financial expenses. Our commitment to efficiency led another decrease in operating expenses, driving 5% EBITDA growth quarter over quarter, with similar improvement in EBITDA from payments vertical, while EBITDA from financial services got back to the positive territory, despite the effects related to the cap on interchange of prepaid cards, lowering our revenues since second quarter. Net income on a non-GAAP basis reached R$ 440 million, growing 6% quarter over quarter and 7% year over year. Earnings per share reached R$ 1.27, 9 cents better than last quarter and 10% higher than third quarter 2022. Cash earnings amounted to R$ 365 million, 40% higher than the second quarter of 2023, and 36% versus the same quarter of last year. On slide 11, revenues from payments unity grew 5% quarter over quarter, while gross profit grew 4% in the same period. TPV growth and transaction cost savings due to interchange cap impacted positively the current performance versus third quarter 2022. Quarter over quarter, the increase was due to lower take rate partially led by client mix change towards large merchants with lower take rates but incremental gross profit contribution. Adjusted EBITDA on the payments division reached R$892 million, an increase of 5% quarter over quarter and 7% year over year. In the next slide, Financial Services Vertical's total revenues reached R$ 260 million in third quarter of 2023, 8% higher than the second quarter. On the other hand, gross profit decreased to R$ 101 million, down 9% on a quarterly basis, mainly led by an increase in provisions for losses due to a credit model update based on IFRS 9, Besides the higher provision levels, adjusted EBITDA grew 64 million reais from third quarter of 2022, back to the positive territory. Moving to slide 13, financial expenses closed at 820 million reais versus 921 million reais in the third quarter of 2022. This decrease is mainly explained by our lower average cost of funding driven by higher level of deposits. In a quarterly basis, financial expenses increased due to more two working days in third quarter 2023 versus last quarter. Total losses decreased 39% year over year, accounting R$165 million, driven by lower provisions for expected credit losses, healthier coverage ratio, and credit underwriting, mostly on secure products. On the other hand, the increase quarter over quarter is mainly due to higher provisions led by modeling review for working capital and payroll loans. Operating expenses reached R$583 million, down 5% year over year and 1% quarter over quarter. This amount represents 14.5% of total revenue and income, lower than the level of third quarter 2022. despite of lower revenue levels derived from the regulatory change and even with 5% of inflation in the last 12 months. Our headcount resizing and marketing and infrastructure optimization led to the leverage. In the slide 14, our cash earnings continue to gain momentum, driven by discipline in total cost and expenses, revenue growth, stable CAPEX and higher margins, reaching a positive amount of R$365 million, up 36% versus same period of 2022. CAPEX marked R$529 million, up 5% year-over-year due to inflation and upbeat trends in merchants' gross ads that requires additional POS inventory levels but lower quire over quire driven by better merchants cohorts and POS activation. Our discipline in capital allocation and efficiencies in IT investments remain, which we expect to result in a similar or lower capital expenditure disbursement versus last year. Depreciation and amortization, including POS write-off, total 393 million reais, representing close to 10% of total revenue and income, keeping the pace to coverage to capex levels in the coming quarters to unlock additional profitability in the future. We expect this stabilization to happen in the second half of 2024 in line with the capex. On the final slide, our net cash balance ended the third quarter at 10.6 billion reais, In the past 12 months, our cash generation amounted to 3.7 billion reais, which we invested 1.8 billion reais in POS purchase and technology developments, and 330 million reais in buyback shares. In October, Treasury holds more than 4% of total shares issued. The company bought back 1 billion reais since 2021, That represents 81% of the total program approved in 2018. Our equity position continued to increase, with 58% being composed by return on earnings, reinforcing our commitment to shareholders on capital allocation and returns. Now we have ended the presentation and we will start the Q&A section.

Operator, please.

Thank you. Ladies and gentlemen, we'll now begin the question and answer session. If you have a question, please press the star key followed by the one key on your touchtone phone now. If at any time you would like to remove yourself from the questioning queue, please press star then two. Please hold while we collect our questions. The first question comes from Mario Pierre with Bank of America. Please go ahead.

Hey, guys. Good afternoon. Congratulations on the quarter. Let me ask you two questions, please. First one is on the take rate, right? We saw that it declined quarter over quarter from 4.06% to 3.97%. You talked about a change in client mix to 4%. To large accounts, it seems like it. But I was wondering if that's all of the impact was just from changing mix. How are you seeing the pricing environment? How are you seeing the competitive environment? And how do you think your take rate behaves going forward? And then the second question is related to, you know, like you talk about having 10.6 billion reais in cash. how you have this buyback program open since 2021, that you executed 80% of the program so far. But I was wondering, how do you see future distribution of excess capital, either in buyback or dividends? Thank you.

Hi, Madjo. This is Eric. Thanks for the question. When we think about the take rates trajectory, we always have to remind that the breakdown take rates are based on the merchant's mix, like you said, duration mix, and also promotional prices that we also make for a certain period of time. If you remind, we started doing the promotional prices for our online sales channel in the beginning of the year. And necessarily, as we continue to see uptrend beat and uptrend in gross ads, naturally, most of these gross ads comes from micro merchants, which have access to the promotional prices for the first month's transaction with us. So promotional prices for a certain period of time, merchant mix, and also duration mix. We understand that the take rate trajectories in the short term should be slightly down, especially in Q4 for seasonality reasons, since debt cards tend to increase the penetration in comparison to overall TPV. But moving forward, as our footprint in larger merchants stabilize, take rates combined to the financial services revenues should also stabilize over 2024. So I think it's reasonable to expect take rates in a consolidated view to stabilize in 2024, but naturally always considered merchants mix, duration mix and promotional prices that we do. Let me pass the word to Arthur.

Hey Mario, it's Arthur speaking. Thank you for your question. Good to talk to you. Regarding to buyback program and the 10.6 billion reais of net cash balance that we have. The 10.6 billion, it's important to mention that is a comparison of assets and liabilities, operational assets and operational liabilities. At this point, we do not have the intention to distribute dividends. We have been buying back shares every quarter. We are expecting to continue doing that due to the current attractive valuation of the company. The buyback program launched in 2018 We executed 81%. There is 200 million reais available at this point. And there is a new buyback program under discussion in the company. And as soon as possible, and as soon as we decide to launch this new one, we will inform the market. And so this is the things that we are thinking about the share buyback.

Great, thank you. Let me follow up then on what Eric talked about, the promotions that you started, promotions for online at the beginning of the year. So is it fair to assume that these promotions have been going on since the beginning of the year, or have you stopped the promotions?

Yes, since the beginning of the year. But when we look at the cohort's evolution in the timeline, we see the decisions that we took six three six months ago posting benefits especially in the gross ads six months later so the decisions that we took in the beginning of the year are reflecting in better gross ads trends and necessarily this share of promotional prices for a certain period of time much more now than the first half 23. okay and how are you seeing the competitors behaving eric

Hi Mario, this is Ricardo. We don't see competitors being irrational. Of course, there are some competitors that try to get some market share for a while, but once they realize that it's hard to make money, they give up, they step back. So we don't see anyone being irrational. If you look at what happened in 2.3, looking at the trend more recently, We were the company that grew more quarter over quarter than all the market. We grew like 8% quarter over quarter, and the market grew 4%. So, I mean, we've been executing well. As Eric said, we also have these promotions that we are getting some results at this point. But going back to your question, we don't see anyone being irrational, and we think we have a good pricing point as of now to keep growing. And as you could see in our results, we had the highest market net income in both gap and no gap. So, I mean, we think we are in the right level in terms of price and growing.

Thank you very much. Thank you.

The next question comes from Jorge Cury with Morgan Stanley. Please go ahead.

Hi, everyone, and congrats on the numbers. I wanted to ask you about your credit portfolio. I'm looking at slide eight of your presentation. We continue to see the total loan book coming down quarter on quarter. I'm wondering, where is your risk appetite? At what point do you think this can start inflecting? Some of the smaller, more FinTech-driven lenders like Banco Pan and Banco Inter and Nubank are showing significantly more growth. What do you need, either internally or externally, to start to see the portfolio of credit really taking off and making best use of your capital and your deposits? Thank you.

Hey Jorge, it's Arthur speaking. Our credit portfolio is growing when you consider where we have focus on payroll loan, FGTS and credit card backed by CDs. So the portfolio is growing. But at this quarter, we also had some write-offs for the working capital loans. It's a running off operation. Regarding to when we can back to offer credit, at this point, we consider focus on credit on secure way. We still see difficulties in the market when we compare to other players and the banks reducing the limits for credit cards. We are waiting the conditions in the market improves to back to offer maybe in a different way credit. But at this point and in the coming quarters, we will focus 100% in the secure portfolio, in the secure originations, and focus on payroll loan, FGTS, and credit card backed by any investment that we receive from the clients. We continue working in the models and all the, I would say, infrastructure to offer credit. And at the right moment, we will be back in the future to talk in a different way about credit.

Got it. Thank you very much. Thank you.

The next question comes from Gabriel Guzan with Citi. Please go ahead.

Good evening. May I do a follow-up on Jorge's question about the credit portfolio? Can you talk about your appetite specifically to the SMB segment? I understand, of course, in your first attempt, there was a mix of micros and SMBs, and now you continue to see the growth in SMBs outpacing micros. Is that something that we should continue seeing, that we will see PAGs more active in this SMB space? And my second question is about CapEx. We see it's stubbornly high, despite you reducing your exposure to micro-emersions, focusing more on SMBs. So I'd like to hear your thoughts on that. Thank you.

Hi, Gabriel. This is Ricardo. Regarding the SMBs, as Arthur said to Jorge, we are looking at this point, we are focused on secured products. Secured credit products, which means that GTS payroll low and then credit card back and buy CDs. It doesn't matter if you are a consumer or if you are an SMB with us. Those are the products that we're going to focus and we're going to keep accelerating in the following quarters. At some point, of course, if you want to be a bank, you've got to have unsecured products, but we just don't think that's the right time to do so. When you look at the market, we see even the incumbent banks struggling with some NPLs and delinquency rates. It seems that it's getting better, the scenario, but at this point, we don't think it's worth to take the risk. We are growing in a healthy way in this security products and we'll keep investing on that. So if your question was related to unsecured products to SMBs, we do not expect to do that in short term. If something changes, we'll let you know, but we don't expect to have this type of products in the short term. We'll keep working on secure products. Yeah, and I'll pass the word to Arthur about CAPEX.

Hey, José, it's Arthur speaking. Thanks for the question and good to talk to you too. Regarding to CAPEX, we remain disciplined on these investments that we are doing. It's important to mention that the CAPEX is not only related to POS, but also related to technology developments. And we see many opportunities to develop new features and also improve the features that we have today to getting better the offer to our clients as much as possible. We are expecting to have a capex this year slightly lower than 2022. That means the level of capex today is reasonable for us and is a good level to maintain the company running and attract new clients, increasing the gross merchants for the company. In 2024, we probably will have the similar CAPEX of 2023. And it's important to mention that in the second half of 2024 onwards, our CAPEX levels tends to be similar to our DNA plus POS write-off. So in the past years, the expenses related to DNA and write-off increased a lot and put pressure on our bottom line and we are seeing that in the second half we have a better way to see the bottom line for the company.

Perfect, thank you. Thank you.

The next question comes from John Coffey with Barclays. Please go ahead.

Great, thank you very much for taking my question. Alex, I had one question for you on some of your prepared remarks. I think you said that you continue to see better TPV growth through the first weeks of the fourth quarter. Should I interpret that as meaning that you're seeing growth around 11%, more than 11%? So I'd just be interested in your thoughts on that. And then for my second question, it was really on the financing expenses that you have. And I'm just, I think, going over to slide 13 in your deck. where I think one of the drivers for having the lower financing expenses year over year have been your deposits. Should we take this to mean that you're becoming more and more insulated from the impacts of the sleek rate that perhaps as a sleek declines, it makes less of a difference on your financing expenses because you're almost funding most of the book or a lot of the book from your deposits. So those are my two. Thanks.

Okay, John, this is Alex. I will answer the first part of your question. Actually, we are growing higher than 11% in the first weeks of the fourth quarter. We see a very good trend in terms of growth moving forward. This is a result of this new growth the beginning of the second semester of this year. First semester, we did a lot of optimization and adjustments in our operation, and we suffered in terms of TPP growth. And now we are regaining this growth momentum, and we are doing better in the fourth quarter than we did in the third quarter.

And John, this is Ricardo. We start the answer of the second question regarding the dependence or the linkage with Selic. You're right. When you look at the ZAR 13, we are more and more using deposits for funding and for all the provisions that we have, meaning prepayment and also the credit that we offer for our clients. At the end of the day, if Selic goes down, it's good news because we're going to have lower costs. And even if you have deposits, they are linked with SELIC. If you look at the slide eight, we see that our deposits, we are paying the blended 93% of SELIC. So if SELIC goes down, we're going to take advantage. So as deposits grow more and more, we don't need to rely on third parties for the funding. And we have a lower cost as a percentage of SELIC considering the deposit. So Answering in a different way, if SELIC goes down, we're going to take advantage because at the end of the day, the cost that we have for partnership space are linked to SELIC. And deposits have a lower cost than third parties operations that we might have in the market.

Complementing the answer, when we talk about deposits, especially when we see deposits on our platform, it's most cheaper than the deposits received from out of our platform, in third-party platforms. So we have a funding structure that considers deposits on capital that is based on return on earnings, that there is no impact in the P&L, in the cost of the P&L. And we mix with other funding structures that also help us to run the business. Going forward, we are expecting to have or to continue to have this good performance in financial expenses because we are most efficient every time. And so this was the first time when we compare year over year that we are reducing nominal terms. So it's good for the company. Obviously part of that is related to Selic downtrend because we are expecting to have more one cut in December. but also because we are more efficient in the funding structure that we developed for the company.

Great. Thank you. Thank you.

The next question comes from Yuri Fernandes with JP Morgan. Please go ahead.

Hey, everybody. I have a question here on PIX, P-I-X-U-M. I would like to know if you can share anything with us. How relevant is this becoming? Some competitors are starting to disclose that information. So just checking if you can help us to understand a little bit this fix. And then I will ask a second question. Thank you.

Hi, this is Ricardo. Thank you for the question. Well, first of all, it is important to say that now we're taking rates. We consider PIX QR code revenues, and we also consider PIX volumes in the denominator. We know some other players in the market, they may differ, but we use the PIX revenues QR code, and we also use the PIX TPV in the denominator. We don't disclose exactly number or the volumes of PIX that you have, but they are similar to what you see in the market with other players. yeah, so as a percentage of TPV is very similar to what you see in other players in the market.

No, that's super clear. That helps a lot. And on deposits, you're already discussing the previous question, but it was very good, right? 20% quarter over quarter. This is not a seasonal quarter, right? It seems we're doing something differently. What is the drive for this growth? Why was deposits stable for, I don't know, three quarters and now we are seeing, you know, deposits What are you doing to bring these deposits on the PagBank?

Thank you. It's Arthur speaking related to deposits. It's not a silver bullet that we are doing. It's many things differently. The management is 100% focused on that because we know that it's important to us. Increase the number of deposits. We are working to provide better service to the clients. The triple A rating that we received from S&P 500 Global is also helping us to bring this money to the company in the cheapest way. TPV volume growing help us because part of this deposit come from merchants. So it's several things that we are doing. And also, I can tell you that we increase the level of the features that we are offering to the clients much better. than in the past. So many things that we are doing, it's not only one thing that brings this result to us.

No, perfect. Super clear.

Thank you and congrats. Okay, thank you.

The next question comes from Caio Prato with UBS. Please go ahead.

Hello, everyone. Good evening. Thank you for the opportunity to ask questions. I have two on my side, please. First, on your reported losses this quarter. So we saw that the expected credit losses increased during the quarter, and you mentioned that it was related to some change regarding the IFRS 9. So I just would like to have more details here. What was the change? If this was a one-off effect or no? And also, still on losses, if you could better explain the drivers behind the sequential increase on chargebacks which surpassed the level of TPV growth. So just would like to understand the drivers behind that and if this is related to the prepayment product with instant settlement or not, if you are offering this nowadays or no. And the second question is related to the expectations for 2024, if you can provide some details and if you expect to provide any type of guidance for the year, I don't know, in the coming quarter. That's it on my side. Thank you.

Caio, it's Arthur speaking. Good to talk to you. Regarding to expected credit losses, this quarter we had the impact of payroll loan and working capital loan, FIS 9 review. That increased the provisions. This is the explanation why increased the provisions. the provisions at this point. In a yearly basis, we use it to review the models to ensure we have the right level of provisions to cover expected losses or future expected losses. But the most important point is the new credit originations are secured, which relies on a lower level of provisions going forward because we are increasing this origination related to secure products. that will represent lower provisions going forward. Regarding to chargebacks, we include their operational losses, we include other things related to issuing cards and chargebacks from online and POS chargebacks. If we compare the amount, okay, it's higher, but when we compare in terms of basis points, it's lower than the last year. That is most important to us because we are seeing that our fraud prevention is increasing.

And regarding 2024, Caio, we still, maybe still a little bit early to give some color about 2024, but I would say that, as Alex said in the speech, we are seeing very good growth in terms of volumes, TPV growth in Q4. We also expect the interest rate of the country still to have another cut, maybe 25 or 50 bips at the beginning of December. So we are optimistic with Q4 to be a very good one. Usually Q4, we have more volumes because of the holiday season with Black Friday and Christmas and so on. So we are very optimistic with Q4. And from there, we can think, give more color about 2024. But I mean, we are confident it's gonna be a good quarter as far as we have the previous numbers. We are in half of the quarter at this point, so we are optimistic about it.

Okay. Thank you very much. Thank you, Caio.

Next question comes from James Friedman with Susquehanna. Please go ahead.

Hi. Thank you for taking my question. Thank you. So, Arturo, just in response to the prior answer, because the IFRS issue came up with one of your competitors as well, though it may have been for a different reason. But do you mind just elaborating on what you just said in the prior response about the impact of the working capital? And as you answer that, are there any other changes in IFRS that you're anticipating that we should also be aware of before they happen?

Hey, James, it's Arthur. Thank you for the question. So the most relevant impact is related to the runoff operation of working capital. So we increased a little bit the provisions at this point. I would say that it's like a one-time impact in this quarter. We are not expecting any other change in the coming quarters.

Okay, clear. And then just to kind of higher level question, but I realize for a while now you have, to some extent, emphasized SMB to de-emphasize the less structured long tail. But I'm just wondering if you're anticipating any additional consequences of that, whether it's how you see the take rates evolving longer term or the additional opportunities that that will create Just as you transition the company that way for, and I know it's a very open-ended and big picture question, but as you move the company in that direction, how do you anticipate the financial results are going to evolve? Thank you very much.

Hi, James. This is Ricardo. Just to be clear, we are not emphasizing the long tail. We're just saying that we're seeing a big opportunity in SMBs. As you can see, In one of our slides here, we are growing like SMBs 18% and long tail growing 9%. Importantly, slide number five. So we are growing, even if you consider long tail, we are growing 9%, which is the same growth of the industry. And remember, some of our long tail clients, they become SMBs as time passes by. They keep working with us. At some point, their businesses grow. and then they become an SMB. So if you look at the composite of these two parts, both SMB and Logitech, we are growing 15%, which is like 60% more than what the industry grew in 2003. So it doesn't mean that we are de-emphasizing, but we are seeing a very good opportunity in SMBs as well, not only in acquiring, but also in the banking side. We have a very strong, very powerful value proposition for this type of clients that includes instant settlement, banking, high-yield CDs, conciliation software. So that's why we see opportunities coming from there. In terms of financial results, as we tried to explain before, our take rates might go down as a percentage, but in absolute terms makes total sense because SMBs have much more volume when compared to long-tail, sometimes 10 times bigger. So as a percentage, the net take rate is lower, but as absolute terms, absolute dollars makes total sense. So that's why we keep growing. That's why in Q3 we had the highest net income of the company ever. And we don't think that is going to change. I mean, take rates might go down, as we said before, maybe stabilize or slightly go down. But in absolute terms, we expect to keep growing. So that's the overall picture. We still see opportunities in long tail, and we also see opportunities in consumers as well. We keep growing. In Q3 this year, if you look at NetAds Impact Bank, it was the best quarter of the year. So, I mean, we still see some avenues, opportunities to explore going forward.

Great. Thank you, Ricardo.

Also, I would just like to compliment that in this quarter we had a record of POS sales since January 2022 and with the highest POS activation since mid-2021.

Thank you both. Thank you.

The next question comes from Neha. Agarwala with HSBC. Please go ahead.

Hi, congratulations on the results and thank you for taking my question. So, a few observations from your comments so far. It seems like on credit, you are not even testing or piloting the unsecured loan product at the moment because you're fully concentrated on the secured lending side. But first, is that right or wrong? it's something different and I do not understand correctly because when we talk to most of the other players in the market, while they had been restricting origination so far, even the larger banks are now talking about the potential acceleration in growth. So just want to understand that, you know, if you're not testing, if you're not open to lending in the unsecured market, then your competitors will be ahead of you when the market conditions improve So what are your thoughts on that? And did I understand correctly that lending to the SMB in the unsecured space is not your priority? Because I would assume that the SMBs are probably less risky than the long tail when it comes to unsecured lending product. So clarification there. And this goes to my next question, which is on the take rates. The take rates have been coming down given the change in mix. And next year you see more stability in terms of mix. So take rates should stabilize. But what about 25, 26? Do you see take rates continue to come down due to competition? Or do you think new products like banking or credit would be able to offset any pressure on take rates from competition or lower rates? So some clarification on the trend there. Thank you so much.

Hi, Niha. This is Ricardo. I'll try to address your question. If it's not clear, let me know. But we are testing unsecured credit for small volumes for some clients. And we have some credit pilots. We are doing small tests for different clusters of clients. So we do have processes in place. We have the models. We have the billing process in place and so on. So we are testing that. But the point is, Even when you look at the credit cycle, as I said before, it seems it's getting better. It doesn't mean it is already the time to jump in, but it seems getting better. Many, many big banks or the incumbent banks in Brazil, they struggled with NPLs in the previous quarters. Now in Q3, it's getting a little bit better for some of them, but it doesn't mean that it's time to jump in. We are ready to do that when you think it's the right time, when you think the risk return makes sense. But to be honest, we find a way with secured products that we are happy with that and we accelerate that as much as we can. It doesn't mean that we cannot make unsecured products in the near future. I'm just saying that's not the focus, but we do, we are testing just to answer our first question. In terms of the SMBs, we see that we have a strong value proposition that doesn't require us to offer credit for these clients that we are getting in our base. Of course, there could be some SMBs out there that they just want to have an acquiring company if there is any loan or lending offer and so on, but we don't see that as a block for us to keep growing. As I said before in slide five, we are growing like 18%, double of the industry in SMBs year over year. There's still lots of room to grow in SMBs. We see There is bad service out there and we can get these clients with the value proposition animation, instant settlement, digital free banking and so on. But we don't think that we are, we don't have the plan to keep offering loans for the SMBs at this point. Regarding take rates, we, as we said in 2024, slightly downward stable. In 2025, 2026, it's hard to give you some visibility. But remember that as we grow our financial services business unit, we also are going to have a tailwind in our take rate because we're going to have more revenues with the same client. So it's hard to say to you how it's going to be genetic rate 2025, 2026. But structurally saying, what we see at this point is TPV growth. that we are seeing Q4 is growing. Interest rates seems to go down, not only Brazil, but all over the world. So all the headwinds that we had like two years ago, we are seeing that they are disappearing or getting better as we look in the future. So, I mean, I cannot give you what's going to be 2025, 2026, but it seems like Q4 is going to be a good quarter. We expect to have a good 2024 as well.

Thank you so much, Dutra. Very helpful.

Thank you, Neha.

The next question comes from Josh Siegler with Cantor Fitzgerald. Please go ahead.

Yeah. Hi. Good evening. Thanks for taking my question. Nice print today. First of all, I was wondering if you could comment on how you're thinking about the longer-term capital allocation of the business, given the cash generation you have going.

Well, Josh, it's Arthur speaking. Thank you for the question. Regarding to long-term capital allocation, what I can tell you is we are 100% focused and continue to delivering the results that we are delivering, growing quarter over quarter, and using part of these results to reinvest in the company, in the to reduce the dependency on other financial institutions to fund part of the operation. We have very good margins on advancing receivables to merchants, and we will continue doing that. On top of that, we have this buyback program that we expect to approve a new program in the coming months, and then we will inform to the market that We have a new program and the rules of this program. And at this point, we are not discussing dividends. So we just are focused on continuing to deliver results, investing part of this money to buy back shares, investing part of this money in the operation.

Great. That's helpful. And I just want to dive a little bit deeper into the 2024, you know, potential stabilization of take rates. Can you give us some more KPIs that would be integral to seeing that take rate really start to stabilize?

Hi, John. This is Eric. Hi, Josh. This is Eric. I'm sorry. Well, when we see, again, take rates, we are not stop moving up market only to post higher take rates because by the end of the day, I think we have been showing quarter after quarter As the company keeps moving your strategy to extend the services beyond long tail, this business looks accretive to EPS. What are the drivers for that? Primarily, better spreads given to deposits based by lowering our cost of funding structurally. And also, the financial services uptrend in terms of revenues that can contribute positively moving forward. Naturally, we expect in some point a much more stabilized TPV mix breaking down by merchant size than we have nowadays that necessarily should bring a more stable take rates moving forward. But again, we are not looking take rates. We are looking merchants growth and how they contribute to the bottom line. If we look only take rates, we are losing the focus here, which is necessarily growth with profitability by delivering EPS growth quarter over quarter and year over year.

Okay. That's very helpful, Eric. Thank you. And congrats again on the quarter.

Thank you.

The next question comes from Sumit Dara with New Street Research. Please go ahead.

Hi, guys. Thanks very much. Great, great numbers. Just on that point, it seems like the momentum in the business in Q3 and in early Q4 is really strong. You talked about some initiatives in the first half of the year really coming through i mean just to dig into that in a bit more detail you talked about some promotional pricing being part of that maybe just help us understand what else you've done and what else is happening to continue that tpb momentum would be helpful thank you and then i had a quick follow-up please hi seven thank you for the question good to hear uh is it ricardo

The promotions that we have, we always have promotions all the time, depending on the seasonality, if it's a holiday, if it's Black Friday, we always have promotional prices. But at the end of the day, the idea is to have a driver to get new clients that are looking for specific promotions and specific features and specific, I don't know, pricing structure. But to be honest, these promotions doesn't move the needle because they are very small in terms of the TPV that we have today. So we have a hundred billion reais in TPV in Q3. So imagine that we are getting new clients, but they are a small portion of the total. So I don't think that, to be honest, these promotions will move the needle in terms of, I don't know, take rates going down dramatically and so on, because it's like very small and compared to the whole volumes. What we do have is like when you go to, mix of clients shifting towards SMBs, because again, they have much more volume than long tail, although they have a lower take rate. It does make sense for us to go for these clients because they use not only the acquiring, but we are getting more penetration of digital banking in these clients. And as time passes by, we can cross sell more products to them. So Going back to your question, we do have promotions all the time, depending on the type of clients, depending on some period that you have, sometimes limited to volume, sometimes the promotion is only in debit, other times in credit. So we always have promotions, and sometimes we may have more than one promotion at the same time. It's very common. So it's not an issue and it's not something new. What we're seeing that we are getting more clients, more SMBs, they are getting matured, Some of them may be using another acquiring. Now they are using those more and more because they have these in the settlement and so on. But as you said in your question, we are having a good momentum in our view and growing more in the market quarter over quarter and a strong TPV growth in Q4 as well.

Okay, that's clear. Thanks. And a quick follow-up, if possible, please. Again, just referring back to slide five where there's a bit of granularity on the different segments. Can you just maybe help us understand how much of the volume is SMB today? And can you remind us of what the cutoff is, what the definition of SMB versus long tail is? And then just finally, the chart on the right-hand side showing the relative growth rates, you know, not sort of precisely, but is that broadly how you'd expect to see the kind of relative segments growth going forward, that relative difference between the three.

Thank you. We do expect SMBs to grow more in TPV because again, they have more absolute TPV than other clients that you have, the long tail. We are seeing a good momentum in these SMBs. And as I said before, some of the long tail clients, They became SMBs, so that's why once they reach some level of TPV, they go to the SMB niche or cluster, so to say here. So that's why SMBs may take advantage of clients that are growing within our base. But yes, we do expect SMBs to grow more than long tail. I don't know if it's going to be the same difference that you have in this slide number five, but you do expect SMBs TPV to grow more than long tail. Anything else? I don't know if I answered fully your question.

I just wondered, did you have to cut off the TPV definitions between SMB and long tail and enterprise would be helpful?

We don't disclose exactly the level of each one, but You may expect that long tail is smaller clients and SMBs. You have a small business with a few employees and so on. So we don't have to exactly number here. We don't disclose that. But it's similar to what some other players in the market, they disclose. And usually the TPV from SMBs are five to ten times larger than long tail.

Okay. That's helpful. Thank you. Thank you.

The next question comes from Pedro Leduc with Itaú DBA. Please, go ahead.

Good evening, everybody. Thank you for taking the question. Also, congrats on the quarter and good disclosure. Question quickly on the selling expenses that have been quite controlled here to date, but they seem to have moved up into the Q. I'm looking at almost 20% Q and Q jump. Wondering if it's related to that heavy activation of QSs that you mentioned more recently. or if it has to do with the greater SMB profile. Again, essentially trying to guard here the pace of your total cost and expenses, but this line in particular, everything else was quite controlled. This one caught our attention. Just wondering if there's any specifics here you want to share with us. Thank you.

Well, Pedro, thank you for your question. It's Arthur speaking. It's... A mix of things in this line, moving up, moving down. We have a little bit of sales force increase in the last months of the quarter. That is pushing a little bit this line up. but also we increased the level of chargebacks and provisions for credit. And so the most relevant impact is coming from total losses.

Exactly, Pedro, because by the end of the day, even though chargebacks as a percentage of total payment volume has decreased one base point in comparison to Q3 22, naturally it grows, right, with TPV. But also the higher level of expected credit losses, given the credit model update, accordingly to the IFRS 9, that made us to additionally increase our provisions in the short term. We had also an increase in sales force, reinforcing in some geographies our operation, a slightly increase. So necessarily when we combine all of this deployments necessarily, we had this kind of trend in Q3.

Super, super clear because indeed personnel expenses doesn't look like to have gone up that line specifically about selling beer. Much appreciated, Eric and Artur. Thank you. Thank you.

The next question comes from Alex Markgraf with KeyBank. Please go ahead.

Hi, everyone. Thanks for taking my question. Just one for me. I was wondering if you all could comment on a metric that you disclosed in the past, the clients using PagBank as a primary bank. I don't think you've shared it for a couple of quarters. Just wanted to get your observations around that metric, both for consumers and merchants. Thanks.

Hi, Alex. This is Ricardo. You're right, we don't have the information here, but we usually have like 60% using that in the consumers and 50% in the merchants. That didn't change too much. It might grow a little bit a month and so on, but I don't have the numbers on top of my mind here, but you can consider that as the same level, 60% for merchants. 50% for merchants using PagBank as the primary bank.

Okay, and is that true as well for the newer cohorts that have onboarded?

Yes, I think it's true for the new cohorts. To be honest, for some of them it's even higher, but you can consider that it's similar to what we have.

Sure, thank you.

Thank you.

The next question comes from Sherig Sumar with Evercore RSI. Please go ahead.

Hey, thanks a lot for taking my question. It's nice to see the trajectory on the margins. I just wanted to get a sense as to how should we think about for next year in terms of the margin trajectory as to how focused is PAGS on driving margin expansion And also on the operating expense side, also like we saw a nice decline as a percentage of top line to like 14.5%. I mean, I know you kind of also answered through that, but is there like a target on that as to what's the baseline for that which we could see for 2024 and even for the fourth quarter as well? Thank you.

Hi, Sherif. Thank you for the question. I'll let the word for Arthur in a few minutes for him to compliment, but in terms of margins, it's also worth to say and to remember everyone that we are the most profitable company in this market. If you consider TPV for every reais or every dollar that you have in volumes transaction in our POS devices, our online solutions, we are the one with that translate that in profits in the bottom line more than any other player. So, Relatively to our competitors, we are the most profitable company in this market. So margins is a consequence of what you're doing and what we're growing in terms of clients. And as we said, as we have this mix shifting from less from long tail more to SMEs, we see that the metric rate is lower, but in absolute terms is higher. So in dollars, in absolute dollars is higher. So we don't look to margins as the main driver for the company because at the end of the day, what we want to do is to have EPS accretion. And this quarter, we had 7% EPS accretion quarter over quarter and 10% EPS accretion year over year. So that's the main driver that we look for to generate value to our shareholders, EPS accretion. Margin is kind of the consequence, but to be honest, it's not the main focus. And you can see that the margins are very stable in the past quarters. Even this quarter, if I'm not wrong, it grew like 10 bps. So that's the main view, how we see margins. But Arthur can give you more color to you. Thank you.

As Dutra is saying, we keep growing our business in payments, in financial services. All of the segments are contributing to the bottom line. We had the all-time high net income gap and non-gap this quarter that we are proud to announce that. We are not putting a lot of focus on margins, but in nominal growth, yes, we are focused on that. And it's true that going forward, lower interest rates and better performance in financial service can help us to increase margins. We are not providing any guidance for the future, but it's true that those two things and the focus on reducing expenses and continue to growing both business can help us to deliver that.

Thank you so much. That's it for me. Thank you.

The next question comes from Tito Labarta with Goldman Sachs. Please go ahead.

Hi, good evening. Thank you for the call and for taking my question. Just to follow up on the slide five, thanks for that disclosure on the growth by the different segments. I know you mentioned that SMB probably still grows faster, but should we expect some type of conversions between SMB and long tail just in the sense of you know, for the take rates to stabilize, you know, they probably have to begin to stabilize. So there could be some deceleration in SMB and maybe some acceleration in long tail. And maybe not a completely fair question, but, you know, one of your competitors gave some long-term guidance on, you know, 13% CAGR and MSNB TPV growth. Just, you know, you're growing 15%, but how do you think about the sustainability of of the micro and SMB TPV over time. You know, you think you should be able to gain share growing up off the market. Is like a mid-teens type TPV growth sustainable over the coming years? Thank you.

Hi, Tito. This is Ricardo. I will start backwards and then Eric or Arthur can talk about take rates. We always say that we try to go more than the industry in a profitable way, and we try to keep doing that in the following years. So we kind of decelerate a little bit our TPV in Q1 this year or a little bit in Q2, but in Q3, we saw this rebound again. Q4, we have very good numbers in the first 45 days. and we'll try to keep growing more than the industry in a profitable way in the niches that we decide to grow, which is MSNBs, long tail and also SMBs. Of course, if we look TPV, we have relatively more penetration in long tail than SMBs related to the market. So that's why SMBs, TPVs grow more when compared to long tail. We keep working on these two different niches, so to say, But we have lower exposure to SMBs at this point, and that's why we're growing. And we don't see good service out there that we need to grow there and decrease prices and so on. We can go there with our value proposition. We try not to compete with price. And looking forward, the long-term view here is to keep growing more than the industry and the niches that you decide to play. If there is a huge growth in large accounts and we don't grow in this type of client, that's fine. We will play MSMEs. We cannot comment in some other companies' CAGRs, and we don't know what is the assumption behind that. But our view is to keep growing more in the industry in these two niches, MSMEs.

And one of the things, Tito, that if the CAGRs, is a reality, I think this is positive news, especially for new players like us, right? Because by the end of the day, when we look at these small and medium businesses, despite we see much more companies talking about this existing opportunity, we have the merchant acquiring and digital bank fully integrated. We have been growing almost 20% year over year. So there's still further room to keep growing on that. And necessarily, if it's feasible, that's good. It implies to say that the economic outlook and the industry trend should continue to improve as we saw in Q3 in comparison to Q2. This also implies that the carbon penetration should increase and necessarily our market share gains in all segments and overall market share. So I think it's a good message when we hear that the outlook for the next years is compelling because the opportunity will primarily be for the new players like us. And secondly, we have the advantage of having the lower average cost of funding, similar to bank acquirers, And we have a value proposition similar or better than the new players. So we have this vast combination. So this is why, again, we are not looking for take rates, because when we look at the total addressable market, it's huge, right? We only have 10% to 11% market share. So we are aiming to explore this market share. And when we look at the take rates trajectory, again, it will depend on mix. Right now, we have been seeing better momentum on all the segments, if we grow faster in large accounts, necessarily there will be a take rate trajectory differently, right? If it's accretive to bottom line, that's amazing, right? So this is what we are looking for, and this is what we are working for, okay? So thank you so much.

Great, no, thanks for that, Carlos. That's helpful, appreciate it. But just one follow-up kind of on the first point, Is it fair to say that for the take rate to stabilize, you do need a little bit of a convergence between the SMB and the long tail on the growth, just given the different dynamics there?

It depends on how the both segments work. It's early to

Yeah, no, my question is more for the take rate to stabilize, you would need to see the growth be closer between the two segments, right? Because otherwise, if you keep growing faster in SMB just by nature, the take rate will come down. So for the take rate stabilization that you pointed to, it would be growing a little bit more at a closer pace. That's just what I'm trying to understand.

Tito, we are not concerned about take rate. profits grow necessarily as the convergence of SMBs, micro-mergers, and overall market share breaking down in large accounts, SMBs, and long tail. Necessarily, if this is stabilized, take rates stabilize. So we don't have right now any commentary on the convergence of take rates of SMBs and long tail, but what we can say is for the long tail's They necessarily keep growing their businesses. They can have better offerings if it makes sense. But we always evaluate the cross-selling opportunities and how to create a win-win relationship from merchant acquiring take rates and financial services revenues and what are the gross profits of creative transactions that we have here.

Okay. Thanks. I could follow up with more specific stuff. Thank you. Thank you, Tito.

Thank you all very much. This concludes our Q&A section of the call. I'd like to turn the conference over back to the management for your closing remarks. Please go ahead.

Hi, everyone. Thank you very much for participation in the call. Thank you for investing the time. Talk to you next call. Thank you very much.

This concludes today's conference. Thank you for attending today's presentation. You may now disconnect.