MercadoLibre's CEO Presents at Morgan Stanley Technology, Media & Telecom Conference (Transcript)

Mar. 5.14 | About: MercadoLibre, Inc. (MELI)

MercadoLibre Inc. (NASDAQ:MELI)

Morgan Stanley Technology, Media & Telecom Conference Call

March 5, 2014 4:20 PM ET


Pedro Arnt – Executive Vice President and Chief Financial Officer


Michel Morin – Morgan Stanley & Co. LLC

Michel Morin – Morgan Stanley & Co. LLC

Okay. We will get started. Please note that important disclosures including my personal holdings disclosures and Morgan Stanley disclosures all up here as a handout available in the registration area and on the Morgan Stanley public website.

My name is Michel Morin. I am the Latin America TMT analyst at Morgan Stanley and I am very pleased to be joined by Pedro Arnt, the CFO of MercadoLibre. In 2013, the company grew registered users by 22%, almost 100 million. Items sold grew 23% and in dollar terms merchandise volume grew 28%, payments grew 40%, revenue increased 27% to almost $475 million. So, pretty good year Pedro. Welcome back to the conference.

Pedro Arnt

Thank you for having us.

Michel Morin – Morgan Stanley & Co. LLC

So, let’s start on the macro front. I think that’s been very topical year-to-date you had in the recent years some tailwinds from the economy. And now it seems like perhaps you might be facing some headwinds going into this year. So, can you talk about what kind of impact you have been seeing to date especially in Venezuela and Argentina.

Pedro Arnt

Yes, so just to place that a little bit in context and I think we have been pretty consistent with this, right. We said that, perhaps the most relevant trend behind our story it’s not so much what’s happening at a macro level with the economies of the countries we operate in, but the secular trend that generates the most tailwinds for our business, right.

Consumers are moving from shopping offline and from paying offline, to doing all these things online and we benefit tremendously from that. And so we have consistently said, that whether GDP for a specific country gets revive downwards by 1%, 2%, 3% that really isn’t what’s driving our business. Our business is being driven by the secular trends of consumers moving offline to online, broadband penetration, mobile the voice penetration, the transition from feature phones to smartphones and perhaps most importantly of all execution.

Are we innovating fast enough on behalf of our buyers and sellers? And so that continues to be the case, and so for most of our business, really macro is not a focus, it’s on execution.

Now having said that, clearly, Venezuela is a country where we’re seeing a severe crisis, a political crisis that significantly impacts macro. and so that did have an impact on our reported fourth quarter numbers. Our Venezuelan business surprisingly, had sustained growth rates in the high-20s throughout most of the year, and then with the crisis, really reaching a peak in the fourth quarter. We did see a slowdown there. we said that our Venezuelan business went from growing 27% to roughly 12% in units. So a significant slowdown that also accounts to a most, not all of the deceleration on a consolidated basis.

And I think going forward; the Venezuelan situation is one that we need to remain cautious on, in February, things have gotten progressively worse. And it is what it is. I think more importantly, also to put it in context, Venezuela represents about 11% of our units sold, it represents more than that in terms of our P&L, because of currency issues, but it’s really a small portion of our overall business.

Michel Morin – Morgan Stanley & Co. LLC

And related to kind of the more challenging microenvironment, there has also been some policy changes especially in Venezuela, you know that the government talked about, even imposing a cap on profit margins as 30%. so as I look at your contribution margins from the country, I worry as to whether or not that might affect you, so what has been the – what’s the latest development on that particular topic.

Pedro Arnt

Yes. so I think there are also regulatory challenges there, with respect to the specific issue around profit caps or margin caps. We’re still working through with lawyers and accountants, and I think we need to see exactly how that plays out. And again, I think importantly, also is, we try to control what we can control right. so the Venezuelan business is one that we don’t have to send any cash into, it’s a business that’s self-sustaining and self-funding. The actual day-to-day operations of e-commerce, despite the macro complications aren’t that distinct towards running the day-to-day operations of an e-commerce business in the countries are, and that’s what our teams and we focus on, the stuff that’s within our control.

The regulatory issues, the currency issues, they will play out; I think we’ll adjust to them, we’ll disclose them, and much of the reason that we remain committed to the Venezuelan market despite the short-term complexities is that, we really – we take a long-term view to the entire business. we believe that there’s tremendous opportunity that’s being generated throughout Latin America.

We are the only regional player, we are the leader in all 13 markets in which we operate and we think that eventually Venezuela turns the tide and the market share that we emerge with there will be significant in a market that’s typically within the six largest markets in our region. so definitely, I think to your point there are short-term turbulences to that part of our business, and we feel confident that we can execute through those and then emerge, strengthen from it in that one geography.

Michel Morin – Morgan Stanley & Co. LLC

So given that longer-term view that you take, can you remind us to how you think about the long-term market opportunity? What is the total addressable market that you’re after?

Pedro Arnt

Yes, yes. So again, my opening remarks, right. The retail world is increasingly moving online, and even the portions of the retail world that might not move online and the purchase got completed online are increasingly being influenced by online behavior online research. And so the world is changing and we are a smack in the middle of that. we own the preeminent e-commerce brand throughout the region. And we are synonymous with buying online for Latin American consumers, just some data for to drive that down I think.

Overall, for the region less than 3% of retail is occurring online. Brazil which is the most advanced country is slightly above that. So, when we contrast that to other emerging markets such as China or even developed markets is the U.S. already are. There is room to double and triple that addressable market just by getting to where some of these other emerging markets are today.

And I think the other important thing is that, as we’ve grown the company and we’ve diversified the company. Today the marketplace is only 70% of our revenue. There is 30% of our revenue, that’s combination of payments, of advertising, of classified solutions, and when we look at the size of some of those markets, they’re equally large in terms of opportunity. So, digital payments will be enormous.

And we really think that with MercadoPago, we have the chance to generate a payment standard for online transactions. And so really the opportunity is gigantic. I think we typically say, this is day one, our Amazon or it’s the tip of the iceberg. There is tremendous room for us to grow.

Michel Morin – Morgan Stanley & Co. LLC

And you had outlined some strategic priorities at your investor day, couple of years ago now, and you refreshed these on your conference calls. Can you remind us the progress you’ve been making on these and what’s in store over the next one to three years? What do you really need to focus on to capture that opportunity?

Pedro Arnt

Yes. So, we certainly have been very consistent in what we think the five or six strategic priorities we have to execute on our. And really they’re all about improving the buying and selling experience. So, we believe that consumers as they move online will get more and more demanding. And the role of the marketplace is to be able to adapt and to meet those demands.

And so we’ve identified. The first one is the payment space. So, we believe that paying is one of the most significant friction points of online purchasing, gaining access to credit is also critical for the retail environment in Latin America. And so the continued growth of our MercadoPago platform, both on MercadoLibre, but also off platform.

Reporting the capabilities that we’ve developed for ourselves on the marketplace and offering that to other online players is a critical part of our strategy. We continue to see very strong traction there. We called out recently that our Brazilian on marketplace payments grew 10 percentage points of adoption. I think full quarter Q4, the percentage of marketplace transactions in Brazil that are processed through Pago are way north of 50% approaching 60%.

Our business in Argentina is already 40% done through MercadoPago. We are seeing solid growth in Mexico, that’s rapidly approaching 20%. So, very good traction and yet at the same time still a lot of room to continue growing. So, payments is one key area of opportunity.

The second one is mobile, much in the same way as developed markets and other emerging markets. We think that consumers are shifting a lot of their online time spent from the desktop to the mobile device. And additionally in emerging market, this could be even more accretive to our business, midterm, many consumers will access internet broadband primarily through mobile devices. So, that I think again an additional area of opportunity in emerging markets.

We’ve seen very, very strong traction with our mobile efforts. Our mobile GMV is growing triple-digits. We’ve disclosed that 13% of our gross merchandise volume is already going through mobile devices and that excludes tablets so just smartphones and we have some markets, where north of 20% of our traffic is already coming from mobile devices. So, good execution there, still a lot more to come.

Third is, we believe that we have an opportunity to significantly grow share of wallet from our consumers, if we expand more aggressively into a larger number of product categories on our marketplace. We had historically been very strong in the consumer electronic space and we are increasingly pursuing newer categories that are rapidly moving online and that will allow us to gain more and more share of annual wallet from our consumers.

And we’ve highlighted the fashion and apparel category, the home and garden category, the toys and games category and auto parts categories are some of the ones that we’re focusing on and we’re seeing those categories grow 1.5x to 2x, the rate of growth of consumer electronics. So, that mix shift is occurring and it’s very positive.

Fourth one is shipping and logistics, you asked me a long question, we are doing a lot. So, marketplace has traditionally had left the shipping and logistics part of an e-commerce purchase to the merchant and the buyer. We believe that we can add significant efficiency to logistics by getting more involved in that. And so we’ve set out to build the technology all the way where we’re integrating different players of the logistics value chain, whether that be carriers, warehouse operators, traditional fulfillment operators into the platform.

So that when consumers buy something on the platform, the carriers and the warehouse operators that are servicing our merchants have been vetted by us, selected by us, we set the pricing and we integrate them into the platform. And by doing that, we think again, we can generate consistent and efficient low cost shipping across the marketplace.

Very early stages, I think we disclosed that, in our Brazilian operation, which is the first place, where we launched this. We exited the year with slightly over 10 percentage units sold, going through our shipping platform. So, that’s tremendous traction for 12 months, but there’s still 90% of the marketplace transactions that we need to onboard to this shipping platform.

And then the final initiative that we’ve addressed consistently is our intent to consolidate the strength that we already have in the C2C market and in the B2C market with small merchants by also attracting larger enterprises primarily brands and branded retailers, who want to sell direct to consumer on to the marketplace. That’s a space that we haven’t made too many inroads in and that we’ve began to pursue more actively as of recently.

So the concept of bringing on brands and branded retailers and build the mall within the marketplace. That’s probably of the four initiatives, one that’s in the earlier stage, but at least it’s up and running and their actual brands that are already selling direct to consumer through us. I think the latest callout we made was, about 35 brands that have onboarded a store within the marketplace and are selling direct to consumers, integrated with our payment and shipping solutions. So, a lot to be excited about and a lot to execute on over the next few years.

Michel Morin – Morgan Stanley & Co. LLC

And just to follow-up on the fulfillment part. You focused initially on Brazil. I think you’ve already started Argentina as well. When you look at the markets, is there one market that stands out, where you think the opportunity maybe larger than market.

Pedro Arnt

So, I think consumer behavior around the desire for predictable windows of delivery, low cost shipping and reliable shipping is a global reality, right. So, I don’t necessarily think that the markets will defer significantly. I think there is certain characteristics for example Argentina has a greater concentration of the population in one city. So, maybe the solution that we are experimenting with their have more to do with motorcycle same day delivery because the distance has to be covered are lesser.

Brazil is a country that vastly widespread. So, if you really want to drive down costs, you need to start looking at cross-docking and be able to pick, which carrier is more efficient for different routes, which is something that we have already began to do at a small scale.

And then a country like Mexico, I think is one where as we get better logistics, that could be an important piece in allowing us to rapidly grow our Mexican business, which when you look at it 8% to 10% of our overall volume one would expect that Mexico typically represents a lot more of that within a regional company that covers Latin America and we think there is a lot of upside to the unlocked out of our Mexican business. So, perhaps shipping could be critical to that

Michel Morin – Morgan Stanley & Co. LLC

Okay, great. And that’s where it was going with the question. So, if we shift a little bit to competition. I think you had the opportunity to sit in on some of the presentations here and there is definitely increased focus by some of the North American or global players on Latin America. We have seen one of your competitors raised some equity recently and it does seem from the outside at least that there is increasing focus on targeting opportunity and perhaps you will be facing increased competition.

What is your view? What are you seeing in the marketplace especially I think in Brazil?

Pedro Arnt

Yes, I mean it confirms the magnitude of the opportunity, right. And I also say that the Brazilian market specifically has been very competitive, when we look at who we compete with in Brazil, we compete with all the largest Brazilian big box retailers that have actually been very aggressive online for quite some time now.

We compete with Wal-Mart. Wal-Mart, as even mentioned their Brazilian e-commerce separation at times in their global earnings call. There is a growing ecosystem of Brazilian pure play retailers. I won’t mention them, but probably know many of them.

And then we’ve seen some of the global players either already enter [indiscernible] had a presence in Brazil for a few year or began to look more intently on the opportunity.

Now coincidentally I think or not coincidentally I should say, our Brazilian market is our fastest growing market. It delivered the strongest results so that any one country for us during 2013 despite being the most competitive market. And that’s not a coincidence. I think the share gains that need to occur so MercadoLibre were to continue on its growth trajectory really share gains from offline commerce, and not so much from the other competitors.

I think that this is far from being as zero-sum game and then we will have Mexico with other extreme, which is perhaps the least competitive market and has had some of the slower growth rates. So, to answer the question, yes, the Brazilian market has been and we will continue to be competitive. The size of the opportunity is enormous. I don’t necessarily think that competition is a negative thing. I think it accelerates the secular trend from offline buying to online buying. And third and perhaps more importantly if we continue to execute on our plan, we are quite confident of our chances. We have the preeminent online brand throughout the region. We have what we believe to be excellent technology and technological capabilities. And 15 years of execution within the e-commerce space in Latin America and so focus on the region. Latin America isn’t 10% of our business. It’s a 100% of our business. So, I think we really like our chances.

Michel Morin – Morgan Stanley & Co. LLC

Great. With that, why don’t we see if there’s any questions from the floor, we will get a mike. Second row?

Question-and-Answer Session

Unidentified Analyst

First question in terms of accelerating the adoption of merchants on the platform. Do you have to provide more financing to merchants both before five years before and now just in general versus other e-commerce businesses around the world. Is that a big difference in Latin America.

Pedro Arnt

Yes. I like the question because it shows all the opportunities in the different venues for growth. That some of these are, we haven’t even tapped in to yet. So, when we talk about our financing business and I think we have been saying that, roughly 10% of our revenues come from financing. That’s just on the buyer side.

So, it’s the spreads we make on extending consumer credit to our buyers. We haven’t even started executing on another opportunity that exists, which is to see how we can secure credit for our merchants, which we can monetize probably and additionally generates better businesses by those merchants on our platform.

Now we are aware with some of our global marketplaces peers do in that space. It’s a very attractive business and one that we will look into, but that we are not doing anything on right now. So, that’s another growth opportunity for us.

Michel Morin – Morgan Stanley & Co. LLC

The one right there.

Unidentified Analyst

Would you consider making shipping on logistics mandatory for merchants in Brazil or other countries and what hurdles do you think you need to get to before you think you can make a mandatory.

Pedro Arnt

I recognized your voice accent, but I, and so we just said, with the shipping piece we are doing now more than 10% of unit sold. When we actually look at percentage of listings that are offering the shipping solution it’s higher than that. But it’s not high enough, where we would think about making it mandatory yet.

Typically the blueprint we pursued with MercadoPago and MercadoPago is mandatory. So, all listings on the platform have to offer MercadoPago. We haven’t received any merchant pushback from that. But I think you wait a little bit longer. You wait perhaps until you have merchant side adoption that’s closer to 50% before you start thinking of implementing it is an obligatory solution.

So, I think the relevant piece there is, we’re very committed to making our shipping platform, very widespread across the platforms. Because we really believe it drives better buying and better selling. We need to be patient I think the first 12 months have been incredibly successful and if we continue to have this kind of execution, we will get there over the next few years.

Unidentified Analyst

Thank you. Two questions if I may. Firstly which of the categories you mentioned, which are growing more quickly than consumer electronics, do you see the biggest opportunity in. And then secondly one of your big competitors in Brazil is also launched a marketplace recently. Is there any risk of impact the economics of that business to you.

Pedro Arnt

Yes. And so we try to determine, which categories are the more relevant ones to pursue. I would say by looking at two things, by looking at the existing e-commerce space in Brazil. so which categories did we under index versus what we’re seeing in e-commerce. And then we also take a look at what we see on other global marketplaces. so what categories seemed to be working on eBay, on Taobao and whatnot, and there are a few that actually answer – the answer is yes, to both of them, right.

Home and garden is one that’s very large across the globe, and that is growing very nicely in Brazil. and then the second one is the apparel and fashion category, which is also growing very nicely in Brazil and is very significant in many of the Asian marketplaces.

So those are two that we’re pursuing that are showing very solid growth. There is the third one that we’ve been incredibly successful with. I’m not sure how it plays out in the other global marketplaces. and I think within Brazil, it’s really more us than anybody else doing this, which is the auto part category, which grows very, very significantly for us.

And then in terms of competitors in marketplaces, so let’s see, I think many, many first party retailers have realized – what Amazon realized a few years ago, in the success they’re having with the marketplace business and that they’re understanding that the only way to compete in terms of breadth of offering with our business is, if they pursue a marketplace themselves. I think it’s the right decision on their part.

I don’t necessarily think that the skill set that you need to run a successful marketplace at scale is the same skill set that you need to be a first-party retailer. I think they are different beasts. We have always said that we would be extremely hesitant to ever take on inventory, because we think that that’s a business that is very different from our DNA, and I think that the opposite is also true.

So I think we’ll need to wait and see how this plays out. and I think that the third piece is that retailers are increasingly moving multichannel. So I can see that many retailers will even begin to use more than one marketplace, and as long as we continue to deliver value for our buyers and for our sellers, that business will continue to perform extremely, well.

Michel Morin – Morgan Stanley & Co. LLC

Let’s say that that’s way a lot continue to deteriorate and unit growth might go negative. What are you guys – what can you do, what are you going to do in that situation to control expense and EPS et cetera?

Pedro Arnt

Okay. So first of all is, I think that even when you look at the fourth quarter, and we look at some of the more recent numbers, despite the difficult macro conditions, the business still grows. So it hasn’t shrunk yet. If that were the case, this is a business model that has a very, very solid and healthy P&L and margin profile. We don’t invest cash into Venezuela, so that’s a subsidiary that is both cash producing, but also has significant asset reserves there.

So I’m quite comfortable in the ability of that business to continue to self-sustain itself, even if it has to go through a period of anemic growth or even contraction, and we wouldn’t really have to alter what we’re doing and how we’re executing on the ground.

It impacts obviously, our consolidated earnings. But like I said before, we focus on what we can control. Controlling the macro is something we can’t do and the business has enough margin and enough flexibility on cost controls that we can more than easily manage through very, very rough cycles.

Michel Morin – Morgan Stanley & Co. LLC

Okay. Could you just address the issue of the potential liability if you have to take on fraud in Brazil, Brazilian government went that case against to and how much fraud is there that you would be responsible for in a situation like that?

Pedro Arnt

I’m not sure. I know what Brazilian government case you’re referring to.

Michel Morin – Morgan Stanley & Co. LLC

It was a lawsuit that you’ve listed in your 10-K along with – as one of the litigation issues where one of the state prosecutors…

Pedro Arnt

Okay, perfect. So, state prosecutors. So fraud indices are actually a very small fraction of overall GMV. So they’re in the high single-digit low teens basis points of overall GMV. So we’ve done a very good job over the years with our fraud monitoring and fraud control efforts.

I think to your point is, unlike the U.S. or Europe wherewith the Digital Millennium Act, there is legislation that clearly identifies what the responsibilities of the venue or the service provider are with respect to consumer-to-consumer transactions, most of the Latin American government don’t have that kind of legislation.

Now having said that, it’s not something that’s very high on our concern list, that we were to be made liable for losses that occur between buyers and sellers, both because we control fraud pretty well, and because you typically are able to reach some sort of settlement with these state prosecutors where you’ve improved your talent of communication and whatnot, and then you move on.

So I do think, it’s important and a lot of our GR initiatives do focus on trying to get legislation passed that generates a better and clear environment for e-commerce and other digital economies, and most of these countries, whether it be Brazil, Argentina, Mexico, there are legislations on the floors that are being discussed that would generate a much clear set of regulations around what we are and are not responsible for.

Michel Morin – Morgan Stanley & Co. LLC

Could you just give an update on Pago off the marketplace both online and offline and what the team is working on and what the plans is for the next three to five years?

Pedro Arnt

Yes. So the off MercadoLibre opportunity or the merchant service business is obviously, one of the biggest areas of growth. We’ve disclosed a few times at off platform payment continues to be our most rapidly going revenue stream, huge opportunity there. We are not currently focusing on any of the offline stuff. So POS payment is something that we’re observing what’s happening globally, we’re aware that there might be a large opportunity for us there. But it’s not thing that we’ve communicated to something we’re executing on. We’re executing on the traditional offering our capabilities to offline merchants, and we’re beginning to get more aggressive also in the mobile space, so opening an FTK, so that app developers and mobile developers can use MercadoPago processing in collection capabilities on thereof.

The business, not only continues to perform well, but actually accelerated in the fourth quarter. I think we’ve said that in Argentina, our off platform total payment volume is rapidly approaching similar size to our on platform payment volume, so that business in Argentina is really performing incredibly well. It’s also performing very strongly in Brazil, and in Mexico, it’s started later, but it’s beginning to show some traction.

So huge opportunity doing very well, and it’s a matter of continuing to execute. And I think the fourth quarter acceleration really I mean give us confident that 2014 we can see a lot of growth coming from there.

Michel Morin – Morgan Stanley & Co. LLC

So, on that positive note, Pedro, we are going to have to end it there, and we run out of time, but thank you very much.

Pedro Arnt

Thank you very much.

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