Arco Platform Limited Price & Performance (ARCE)

Thank you. I'm pleased to welcome you to Arco's 2nd quarter 2023 conference call. With me on the call today, we have Arco's CEO, Adi Desar Cavalcante. During today's presentation, we will make forward looking statements. Forward looking statements generally relate to future events forward looking statements. Forward looking statements in this presentation include, but are not limited to, statements related to our business and financial performance, our expectations and guidance for future periods, our expectations regarding strategic products initiatives and the related benefits and our expectations regarding the market. These risks include those set forth in the documents 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 as 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 isolation or as a substitute for results prepared in accordance with IFRS.

We have provided a reconciliation of these non IFRS financial measures to the most directly comparable IFRS financial measure in our press release. Please note that except for revenue, gross margins and expense, G and A and cash flow from operations, all other financial measures we discuss here are non IFRS and growth rates are compared to the prior year's comparable period unless otherwise stated. We also note that year over year comparisons are affected by issued not included in our 2022 financials. With that, I'd like to turn the call over to Adrien, Arco's CEO.

Thank you, Otero. I would like to start with the highlights of the quarter on Slide 3. 2023 second quarter Those strong operating cash flow dynamics across all business verticals with consistent improvement of all important underlying cash flow drive ins, such as operating working capital and capital allocation. Arco's pedagogical segment comprising both our core and supplemental solutions have maintained solid operational performance in the current 2023 cycle yielding an adjusted EBITDA minus CapEx of BRL453 million, a 56% growth year over year. This represents an expansion of margin of adjusted EBITDA minus CapEx of 7 percentage points compared to the prior year cycle. This is also a strategy of capturing efficiency gains with centralized functions while increasing operation leverage with our continued growth effectively mitigating the recent Volatility in cost pressures highlighted in our previous reports. Our free cash flow to firm for the pedagogical Segment in 'twenty three cycle is BRL205 million, up from minus BRL81 million during equivalent period last year. The 20 percentage points improvement in free cash flow to firm represents the result of optimized working capital dynamics, reducing effective tax rates and better allocating CapEx. Our Financial Management Solutions segment referred to as F and M continues its accelerated growth trajectory posted a 104% increase in net revenue year over year, reflecting the segment's product market fit aligned with solid execution.

This growth was accompanied by an adjusted EBITDA margin expansion of 86 percentage points reaching minus 2.4 in this quarter. These gains were enabled by our focus on scalability and pursuit of operational efficiency with healthy delinquency levels in our portfolio. I will now turn the call to Otero, who will continue the presentation. Otero, please go ahead.

Thank you, Wadi, and good evening, everyone. We'll begin by presenting the results of our pedagogical segments initiated on Slide 6. Considering the fluctuations in revenue recognition over the quarters, we strongly advise investors to analyze our business performance on a cycle to date basis. In the 2023 cycle, net revenue grew 18% year over year, reaching R1532 billion dollars Our cost solutions marked 17% year over year growth and Supplemental Solutions grew 24% year over year. As anticipated, this quarter posted lower ACV recognition compared to the Q2 in 2022. This shift was driven by our new supply strategy aimed at streamlining operations and reducing delivery count, resulting in concentrated ACV on the Q1 of each cycle. Additionally, a portion of revenues expected to be recognized in June were deferred to July for an impact of BRL36 1,000,000. For this reason, we are bringing P and L figures for the cycle between October July. Moving to Slide 7, we discuss Business adjusted EBITDA. In the 2023 cycle up until June, our margins remain in line with the previous years, despite recent cost pressure. To Between October July, we presented a 36.3 percent adjusted EBITDA margin, up from 34.8% margin in the same period in 2022.

Our projected 2023 adjusted EBITDA margin guidance for the 2023 fiscal year of between 36.5% to 38.5% remains on track. This outlook benefits from normalized ACV recognition curve alongside the 2024 cycle growth and the implementation of new printing contracts that will impact later half of the year. Moving to Slide 8, we disclose our CapEx results. Current high to date figures show CapEx at 6.7% of net revenues, a 7.7 percentage point reduction compared to the corresponding period in the 2022 cycle. This attests to our optimized capital allocation strategy, which reflects an increased collaboration and investment coordination among our brands that continues to reflect our focus on product evolution and quality. On Slide 9, we disclose adjusted EBITDA minus CapEx. 2023 cycle to date posted 29.6 Margins versus 22.4 percent in the previous cycle to date, a significant 7 percentage points expansion. We are on track for our fiscal year guidance for adjusted EBITDA minus CapEx trending towards the higher end of the 26.5 percent to 30.5% margin guidance provided last year. Moving to Slide 10, we disclose the main drivers behind the significant improvement In the pedagogical business working capital cash generation, days of sales outstanding remained flat year over year, while delinquency improved 1 percentage point year over year.

On a comparative basis, we improved days of inventory by 9% year over year. We are disclosing pro form a days of inventory due to a one off initiative to capture better conditions in our supply chain, in which we advanced BRL58 1,000,000 to anticipate paper acquisition for the 2024 cycle with printers, guaranteeing better conditions for the next cycle. As a result, in Italian 11, we showed a consistent improvement across drivers in our pedagogical free cash flow to firm cycle to date, leading our pedagogical business to a free cash flow of BRL205 1,000,000 in the cycle so far, which represents 13.4 percent of net revenues of the period, a $286,000,000 expansion versus a negative $80,000,000 free cash flow registered in the equivalent period in 2022. On Slide 12, we highlight the consistent improvements over cycles. Now moving to Slide 14, we disclose our Financial and Management segment. In the Q2 Of 2023, our net revenue amounted to BRL75 1,000,000, growing 104% year over year when compared to the pro form a net revenue of the Last year prior to the acquisition. Accumulated net revenue for the first half of twenty twenty three reached BRL137 1,000,000, a growth of 116% year over year.

Adjusted EBITDA margin in the quarter reached minus 2.4%, a very important 86 percentage points year over year expansion. Adjusted EBITDA margin in the first half of twenty twenty three landed at minus 12%, an 80 percentage points year over year This improvement in margins is tied to scale and efficiency gains enabled by the growth and tech enabled profile of our platform. We're confident in achieving our net revenue guidance projected to be between R300 $1,000,000 and R350 $1,000,000 and our minus 10% adjusted EBITDA margin guidance for the segment in this fiscal year. On Slide 16, we provide a snapshot of our consolidated ARCO second quarter 'twenty three and first half 'twenty three results, combining both pedagogical and the financial and management results. 2nd quarter consolidated figures delivered a net revenue of BRL471 1,000,000 and adjusted EBITDA of BRL83.5 million with adjusted EBITDA margin at 17.7%. Adjusted net income was BRL78 1,000,000 representing 16.6 percent adjusted net income margin. The first half of twenty twenty three delivered a net revenue of BRL1.05 billion and adjusted EBITDA of BRL194 1,000,000 with 19.3 percent adjusted EBITDA margin. Consolidated adjusted net income was BRL36 1,000,000, representing 3.6 percent adjusted net income margin.

Moving to Slide 17, consolidated free cash flow for the first half of 2023 reached BRL252 1,000,000 including Isaac, representing 25% of net revenues a 6.5 percentage points expansion versus the first half of twenty twenty two. Turning our attention On slide 18, we present Arco's net debt and obligations as of June. Our commitment to reduce an average remains a focal point enabled by organic cash generation growth. In the Q2 of 2023, our net debt over the trailing 12 months adjusted EBITDA was 3.3 times. To account for the aforementioned deferred of June ACV and EBITDA to July, we also present a pro form a net debt over adjusted EBITDA last 12 months as of July, which reached 3.1 times. Going forward, we continue to deploy our balance sheet management strategy. In July, we have issued a non convertible debenture amounting to BRL550 1,000,000 with an interest rate of CDI plus 2.6 percent paid semiannually and amortized over 3 years starting in 2026. In July, we also have another important milestone to share. AISAG has successfully raised a K-twelve dedicated FIDIC. The FIDIC or a receivables backed investment fund secured BRL112 1,000,000 to be amortized in 2025. This allows Isaac to raise capital from 3rd parties to fund its revenue guaranteed product capital requirements.

The fatigue was oversubscribed despite the lack of a well established strike for record and will boost ISX growth even further. Taking into account these issuances in early 3rd quarter, our pro form a cash position totaled BRL1.2 billion. This financial position confidently covers our short term obligations, And we are confident in our cash generation capacity and future perspectives to implement a full deleveraging process in years to come. On Slide 20, we disclose a brief process recap of our recently announced agreement to take Arco private. Upon the receipt of the initial non binding proposal from the bidders At $11 per share in November 2022, the Board of Directors formed a special committee consisting of 4 independent directors to evaluate the non binding proposal. In January 2023, the special committee retained financial and legal independent advisers. In May, the special committee received a revised non binding proposal from the bidders at $13 per share and agreed to engage in negotiations of definitive agreements. On August 10, 2023, Arco entered into an agreement to go private in which shareholders will receive $14 per share in cash, 38% premium versus weighted average for 30 days prior to the initial offer.

The transaction is subject to closing conditions, including among other conditions, the authorization and approval of the agreement by the affirmative vote of shareholders, representing at least 2 thirds of the holding power of the company's common share present and holding in person or by proxy at a general meeting of the company's shareholders and require regulatory approval, the antitrust. Shareholders will receive proxy instructions for the general meeting in due The merger is currently expected to close during the Q4 of 2023 or the Q1 of 2024. With that, we conclude our presentation. Operator, we can now open for questions. Thank you.

Thank you. The floor is now open for questions. You may remove yourself from the queue by pressing star then 2. Questions will be taken in the order they are received. We do ask that when you pose your question that you pick up your handset to provide optimum sound quality. Please hold while we poll for questions. Our first question comes from Mauricio Sperta with Credit Suisse. Please go ahead.

Hi, Otero, Ari, thanks for the opportunity. I have two questions from our side. The first is about the reestablishment of the margin equilibrium in relation to the paper, The cost of paper. So if you how confident you are that in next cycle you'll be able either to negotiate with schools a service fee that is corresponding to the paper costs or if you are kind of confident that there may be an alleviation in the price of the commodity? And the second question is a little bit to get details on this delivery postponement to July. If it was due to any troubles on cash on the cash cycle of your clients or if It was an internal decision about logistics or any other of internal factor. Thank you.

Hi, Tepeda. Hotel here. Thank you so much for the questions. So on the first one, actually, we are very confident with the recovery of gross margin already in the second half coming from, I mean, the better terms with the printing suppliers. Actually, those contracts have already been signed, okay? And so We have 100% visibility on the terms of those contracts. And for the first batch of deliveries, which are the ones that we sent to schools between November, December January, the price Per page printed, we will be down in nominal terms around 12% year over year, okay? So this is Approximately of a unit cost per page printed all in, down 12% Year over year nominal terms. So again, we have visibility. Those are contracts that already signed And this will impact the P and L mostly towards the end of Q3, beginning of Q4. On your second question regarding the revenue postponing from June to July. This is actually a very normal course of business. Sometimes It's a decision that it comes from this call in some situations. So this call requesting to receive the types of content in a certain week. And for a reason this week leads to next month, right?

So the business operates under annual contracts. So it's very common to see the deliveries of the content moving from 1 week to another and as a consequence from 1 month to another and as a consequence from 1 quarter to another, because really it's an annual business and that's how these calls Also see the business, but I mean as we report the earnings on a quarterly basis, sometimes we see these movements In revenue, okay. This does not coincide with cash. This has no correlation with cash necessarily. It's much more logistics or operational decision either from the company or from this call to receive the content in a certain date, Okay. And we recognize the revenue as we deliver the content to this call.

Okay. Thank you. And just to clarify, so about the first question, you are more confident on the reduction of costs through negotiations than in necessarily adjusting prices?

Yes. So The minus 12% that I mentioned to you is the unit cost to print. And also in parallel, we are in the process of renewing ACV for the next cycle and also, of course, during the intake process for new schools. And we are targeting a high single digit price increase to I mean to prices, right? So We're going to see those 2 components contributing to gross margin, the price increase and unit cost down in nominal terms Ladies and gentlemen, there are no further questions at this time. So that concludes our Q and A session. That concludes Arco's Q2 2023 earnings call. Thank you very much for your participation and have a great night.