Qualitas Controladra Sab

Thank you for standing by. This is the conference operator. Good morning, and welcome to Qualitas' second quarter 2023 earnings results webcast. The conference will begin now. It is my pleasure to turn the call over to Santiago Monroy, Qualitas' IRO.

Good morning, and thank you for joining Qualitas' second quarter and first half 2023 earnings call. José Antonio Correa and Bernardo Rizul, our CEO and Deputy CEO, are joining us today As a reminder, discussions in this event may include forward-looking statements. These statements are based on management's current expectations and are subject to many risks and uncertainties that could cause actual events and results to differ materially from those discussed during today's call. Let's turn it over to José Antonio, our CEO, for his remarks. Good morning, everyone. As we have been discussing for a while now, We continue to face several external factors impacting most industries worldwide, with insurance, in particular auto insurance industry, being no exception. In Qualitas, we have a clear understanding of these headwinds and their impact on our business. We have been taking actions to overcome them and return to our historical and objective margins. Looking at our first half performance, I can say this is still a work in progress, but these strong results in several fronts giving us confidence that we are on the right track. Before diving into our financials, let me walk you through some of these factors and give you an update of the industry dynamics while providing our view on the expected evolution towards the balance of this year. First, related to our top-line growth, new car sales continue its positive trend up 22% versus the first half last year, and almost closing the gap versus 2019 levels. Availability of new vehicles has ramped up during the year, although still not fully satisfying demand, as several brands have between three and six months of waiting time. This, we believe, are positive news, and we expect the trend to continue throughout the year. However, there are two factors that may have an impact in this recovery. Current high interest rate levels, given that about 60% of new car sales in Mexico are done via credits and loans. So buying a new car is now more expensive for our consumers. Also, congestion in many harbors and logistic issues are delaying new deliveries and gas inventories. Still, the recovery of new car sales is clear and a benefit for us, as well as for the whole industry. On the other hand, cost pressures prevail, mainly explained by industry inflation, higher frequency, and spare parts availability. Analyzed inflation in Mexico has been stabilizing, closing at around 5% in June. However, spare parts and labor inflation, we have a direct correlation on our loss cost, are still around 9%, which means that while easing versus last year, they are still high and putting pressure in our cost. Now, in addition to the inflation, the auto industry is still facing challenges on spare parts availability. In many cases, it takes months to get This shortage of supply contributes to high prices. Now, let me go back to the new auto sales. There are interesting and relevant dynamic changes to which we are quickly adjusting and striving to always be the insurer of choice. To mention a few of them, four new brands have entered the market since 2019, and they now represent 7% of the market. Consumers are now opting for SUVs rather than compact cars. And as a reference, SUVs and pickups now represent 54 versus 40% of sales back in 2019. Clearly, this has an impact in our average premium cost. Also, electric and hybrid units demand continue to increase. According to the latest AMIA, the industry of sales, figure sales for this type of units have increased more than 30% during the year and currently, represent 5% of total new car sales. We continue in Qualitas to specialize our teams to maintain our leadership in the knowledge, insurance, and repair of this type of units. All of the above impacted the entire industry and Qualitas underwriting and financial performance, in which Bernardo will provide more detail later. I am glad to share that as Per Amis reported figures of the first quarter, 2023, Qualitas continues to lead the industry, not only in premiums, but most importantly on profitability, while only one of the other top five competitors posting a positive on the writing result. And this is very important. And we have stated many times that we will always be true to our service and cost control pillars, aiming for a profitable operation while strengthening our leadership position in the market. External factors allude have created a complex environment for the entire industry for over two years now. We have been adjusting our prices accordingly, and we will continue to do so until we fully recover cost inflation. And it is encouraging to me to see this as being also the intention of the broad market as we have seen recently. Before I hand it over to Bernardo, let me really touch on the other key pillar of our financials, our portfolios. Mexico Central Bank has kept the pension policy rate at 11.25%. Our portfolio is very well positioned to keep and benefit from current context, and together with the Investment Committee, we have increased duration of our portfolio as well as a defined new approach with this position, always seeking to maximize return on the conservative and responsible asset allocation and duration strategies. To wrap it up, our second quarter results show quite a strength to continue retaining and attracting new customers, but we recognize that getting our claims cost back to the desired range is taking a bit longer than expected. Actions have been taken, and I expect that the inflection point will happen in the next six to nine months as we fully materialize the benefit of the pricing and cost saving implemented so far. In the meantime, financial income will play a bigger role in delivering an ROE, which we expect to be closer to our ongoing objective towards the end of this year. And with this background, let me pass to Bernardo for a deep dive in our quarter and year-to-date performance. Bernardo, please.

Thank you, José Antonio, and good morning, everyone. Our first half results reflect anticipated peaking claims as strong financial income and an extraordinary top line. While not all of them are exactly what we would like them to be, they are on the right path, we're headed, we're ahead of the industry, and we continue to build the long-term of the business while navigating through this cycle turmoil. Now, let me provide more color on our performance. Rhythm premiums are up 24% for the quarter and 25% for the year. This growth represents 4.8 billion more in premiums than the first half of 2022, something unseen even on an annual basis for the past six years. Growth was driven by tariff increases, which are up 12% during this year, that together with the increase in the sum insured and mixed account for around 60% of this growth, while the increase of 395,000 units contributed to the balance increase of the sensational top-line performance. We're just 29,000 units shy of reaching 5 million insured units in Mexico, while the total business is now at 5.2 million insured units. While new car sales have recovered throughout the year, it is the traditional segment that has outstanding being up 33%, thanks to the effort of our commercial network, which has now more than 20.7 thousand agents being served through our 548 offices. During the first six months of the year, 40% of our underwriting came from the traditional individual sector, 24% from fleets, and 29% from financial institutions. The rest comes from our international subsidiaries. When compared to three years ago, our individual segment has increased eight percentual points. And it is this higher exposure something we welcome as annual duration implies also faster impact when adjusting prices. Regarding our international operation, quarterly written premiums are up 4.5% in local currency and down 14.5% in pesos. They are up 5.6% in local currency and down 13% year-to-date. This performance reflects the 12% peso appreciation in the first six months of the year, In line with our strategy, Latin America subsidiaries are accelerating growth and are up 58% year-to-date in local currency, while the U.S. subsidiary has centered on executing our previously shared strategy focused on the cross-border product. Premiums for the U.S. business are expected to be down this year as planned. Since I am already talking about the U.S. operation, let me expand on where our two-year turnaround process is. During the first half of 2023, our binational product, which includes and is mainly cross-border, is up 15%, while domestic product is down 57%. The personal auto program, focused well on Hispanic population, was recently launched and is off to a good start. We have regained traction by repositioning the benefits of Qualitas as the one company that covers both countries under one policy. The organizational structure is set to better serve this niche market and we're encouraged by the potential we see, particularly as nearshoring is having a positive impact in Mexico. Just during the first half of the year, 10 global companies announced investments in Mexico to better serve the U.S., which implies higher flow of trucks and a confirmation of the nearshoring effect. Having said so, We are still digesting past year claims, mostly on domestic business, with some adverse developments still. We are expecting to have high loss ratios for this year, leading to a negative bottom line, although making significant progress versus last year. Moving back to Qualitas Controladora performance, earned premiums were up 18% for the quarter and 19% year-to-date, standing at $11.7 billion by 2010. Earned growth pace is directly correlated to reserves behavior. We constituted reserve for around 300 million this quarter. That compares to a 330 million release during the second quarter of last year. This 600 million delta affects quarterly results, but will eventually be released. During the first six months of the year, we have constituted over 1.3 billion pesos, reflecting the loss ratio and the strong top-line performance. Now, going into our cost, inflationary and availability pressures mentioned by Jose Antonio continue to impact our loss ratio, which closed at 72% for the quarter and 71% for the year. To provide a better perspective, I will break claims cost into three main buckets, frequency, spare parts, and thefts. On frequency, we have seen a slight but consistent upward trend, closing first half at 14.2, which compares to 13.5% versus the same period a year ago. The reasons for frequency increase are not precise, but we believe that higher number of motorcycles, coupled with new distractions such as mobile phones and shortage of truck operators are among the drivers. Not only has frequency increased, but this quarter we are seeing higher severity with unfortunate catastrophic accidents. During this quarter, catastrophic events, including floods and hailstorms, increased 87% versus the same quarter a year ago. On claim costs, we're undergoing negotiations with dealers, workshops, and agencies. The strong Mexican peso and commodities stabilization that has reduced some pressure, but not yet fully reflected in lower prices as supply continues to be well surpassed by demand. To overcome this situation, We're taking actions among several fronts where our vertical integration becomes a more relevant pillar to get the right quality and better prices, providing us with a competitive advantage now and in the future. Among several strategies, it is the enhancement of our remote and digital tele-express adjustment tool. 28% of total claims during the first half were attended through this tool. Remote claim officers have a 3-to-1 productivity So this percentage translates into more than 100 million pesos in savings while improving service experience. Managing costs cannot and will not come at the expense of service. And given the supply chain dislocation is still causing some spare part delay, we are providing two claims handling options for policyholders. First, the traditional repair process through the workshop and agencies, recognizing the longer repair times in some cases. or as well the option to obtain a payment for the claim cost. On the third item affecting costs for the first half of the year, robberies represented almost 15% of total cost in comparison to the 13% of the same period last year. Due to mix and increasing the value some insured units, the average cost per theft is up 38%. While we continue to recover almost 6% for points above the rest of the industry, We're taking actions to benefit our costs, such as to better leverage technological tools, strengthening efforts in preventing and avoiding theft, and improving our recovery effectiveness together with different providers and authorities. All of these actions strive to mitigate claim cost evolution and not rely only on pricing, which is certainly carrying most of the weight. We have been adjusting our tariffs gradually but consistently over more than three years now, and doing so more aggressively recently. Just as a reference, in late April, our auto tariffs increased high single digit, and in June, we did the same with heavy equipment. On fleets, which are placed on historic claim results, we are also taking important decisions to ensure premiums are sufficient to cover current risk and cost. Given the nature of the business, the pricing effects are gradual. and take one entire year for each adjustment to fully reflect our P&L. We will continue to adjust until we reach our target claim of 62% to 65%. Now, before I move on to other ratios, let me just share one very important piece of news on the competitive landscape, which sticks to the challenging of managing heavy equipment. During the past two weeks, sorry, during the past weeks, Two insurance companies, among which there is one top three and another top 10 in the truck segment, stated their intention to exit that market. This represents 10% market share and close to 4.3 billion pesos of opportunities. But most importantly, it recognizes the need to be responsible on tariffs, diligent on the operation, and tireless on the efforts of risk prevention, where qualitas will double down. Acquisition costs stood at 22.6 for the quarter and 23.1% year-to-date. The quarterly decrease of 48 basis points come behind a stronger growth in our traditional and individual segment. Despite new car sales performance that correlate to the financial institutions channel, that have a higher acquisition cost. Now, on the operating ratio, it stood at 3.3% for the quarter, 93 basis points below the same period a year ago. Year-to-date operating ratio close at 3%. This ratio is within our expected and objective range, benefited from the endless commitment to cost control, as well as two other factors. One, the income that comes from the underwriting fee, where we charge a fixed amount for insurance premiums, that, by the way, is a common practice in the industry. And second, our third-party vertical subsidiary sales, reflected as an income, which is up 42% versus second quarter of last year. All of the above resulted in a combined ratio of 97.7 for the quarter and 96.8 for the first half, being north of our 90 to 94% ongoing target. I have already expanded on the actions being taken and we're working towards making sequential improvements in the next quarter to get back on track. Now, regarding financial institution performance, second quarter delivered 860 million pesos, reaching 1.8 billion during the first half of the year. This is 2.7 times and 2.2 times that each of the respective period year ago. ROI for the quarter stood at 8.1 and 9% year to date. Although our investment strategy hasn't changed and we're still well positioned to benefit from the current environment, our portfolio performance is not static. And that explains a lower absolute amount than in the first quarter. And let me elaborate. First, the size of our portfolio decreased around 300 million versus first quarter due to the dividend payment that was done in the first half and the higher claim paid. Our portfolio is also distributed geographically to support our international operation. 13% is allocated outside Mexico with different interest rate levels and returns. Our portfolio was impacted by the appreciation of the PESO, resulting in a $62 million impact in our P&L and $191 million in our balance sheet. Important to mention is that we do not speculate in currencies. Let me repeat, we do not speculate in currencies. We're basically matched to asset liability and the needs of the business. Also, as part of our fixed income strategy, we have a roundtable. a part of the portfolio on real rates that are instruments linked to inflation performance. They're called udisados in Spanish. While these rates are very attractive and the highest in decade, in some cases locking at 5.3%, when inflation is lower, such as this quarter, yield will also follow. This impacted in 90 basis points over partly ROI or around 70 million pesos. All in, our portfolio has a 1.5-year duration and 9.3 yield to maturity. We will continue to increase the duration of our portfolio, having internally set two years as our ceiling. Altogether, we posted a $746 million net income for the quarter and $1.6 billion for the first half, representing a 6.2 and 6.8 net margin respectively. The quarterly performance represents a 14% growth, versus the same period last year, and an 18% growth year-to-date. Regarding our financial ratio, our 12-month ROE stands at 13.1%, reflecting our strong capital position as well. 12-month earnings per share stands at 6.2 pesos. Going out into our regulatory capital requirement, by June end, it stands at 4.3 billion, with a solvency margin of 13.8 billion pesos, equivalent to $460 16 solvency ratio. Capital requirement also increased during the growth, given the growing loss ratio and reflecting the mentioned challenge. Our corporate development strategy has progressed as expected, and we have one due diligence process still under assessment. Our excess capital remains strong. We are investing against the defined priorities while strengthening the organization in people and technology We will continue to be disciplined and choiceful to provide sustainable results for our shareholders. In anticipation of what has been a widely asked question regarding a potential extraordinary dividend, that discussion will happen in due time. What I can say is that we acknowledge cash and excess capital belongs to our shareholders. And while we're not in a rush, we're open to assess it. To wrap it up, our commitment to you remains unchanged. The right actions are in place and Qualitas DNA backs our ability to create value despite challenges and circumstances. We will continue evolving and adapting to achieve an inflection point, which is still expected during the second half, whilst providing service experience to our policyholders and agents day after day, quarter after quarter, for decades to come. And with that said, we are more than happy to take your questions.