Faculdade Ciências Médicas da Paraíba (AFYA) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen, and welcome to Afya's FCMPB acquisition call. [Operator Instructions] As a reminder, this call will be recorded. I would now like to introduce your host for today's call, Renata Couto of Afya's Head of Investor Relations. You may begin, ma'am.

Thank you, and good morning, everyone. Thank you for joining us on short notice for a discussion of our recent acquisition of Faculdade Ciências Médicas da Paraiba, or FCMPB. Making comments on today's calls are Afya's CEO, Virgilio Gibbon; and Luis Andre Blanco, our CFO. During today's presentation, our executives will make forward-looking statements that generally relate to future events or future financial or operating performance and involve known and unknown risks, uncertainties and other factors that may cause our actual results to differ materially from those contemplated by these forward-looking statements. Forward-looking statements in this presentation include, but are not limited to, statements related to our business and financial performance, expectations and guidance for future periods or expectations regarding our strategic product initiatives and the related benefits and our expectations regarding the market as well as the potential impact from COVID-19. These risks include 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. Let me now turn the call over to Virgilio Gibbon, Afya's CEO. He's starting with Page 3 in this presentation.

Thank you, Renata, and thanks, everyone, for joining us today. Today, we'll be discussing our purchase agreement with Faculdade Ciências Médicas da Paraiba, a medical school located in the state of Paraiba, Northeast region of Brazil. In terms of medical seats acquired, it represents the second largest acquisition for Afya. As laid out during our IPO process, just about 1 year ago, we are focused on growing our medical school seats through the addition of 1,000 new ones over a 3-year period. Faculdade Ciências Médicas da Paraiba represents our fifth acquisition since the IPO and putting us over the 50% mark to achieving this goal in just 1 year. Now for a few highlights about the new acquisition. The company will be contributing 157 medical seats. This translates into 850 medical students today and 1,130 at maturity. There is one campus in Paraiba State's capital and another one in its metropolitan region. Medicine represents 99% of 2019's net revenue and 100% of it at maturity. The school has a strong brand recognition and it's known for its high-quality standards. Specifically, it has received an IGC and a Concept of Course for medicine program, grade 4 out of 5. These grades for the overall institution and for individual course, respectively. We are extremely pleased to add this attractive asset to our portfolio of medical schools. Moving next to Page 4, and I will discuss the rationale behind the transaction. To begin, as you all know, one of the key strategic priority is to grow our medical seats via acquisitions. Faculdade Ciências Médicas is a medical school with a strong brand recognition. Additionally, the company has well-established relationships with hospitals and clinics, further enhancing our end-to-end medical ecosystem, another important and key differentiating factor for us. Next, as I mentioned at the start of my presentation, this is the second largest acquisition for us in terms of approved medical seats. We see the opportunity to increase our organic growth rate, primarily as we increase the number of seats at maturity at 1,130, up from 850 currently. This should drive a 100 basis point increase in our undergrad medical students. From a bigger point of view, from 2019 to 2026, we are projecting a 12% CAGR in our medical schools undergrad seats. And last, by 2024, we expect a revenue contribution of around BRL 107 million and the EV/EBITDA multiple post synergies and maturation of 6.3x. Moving next to Page 5 for a discussion of expected synergies. We have a successful track record of structuring synergies, delivering cost efficiencies and leverage operating margins from the acquisitions we have completed. As shown on this page, we are highlighting 5 key areas where we expect to achieve synergies. Starting with occupancy rate. Building on our leading market position and strong brand awareness, we believe we can successfully increase the occupancy rate to our marks of 100%. Then shared services. One of the first steps we are able to accomplish with our acquired companies is to move back-office functions into our Afya's platform, generally achieving immediate cost efficiencies. Next, we begin the implementation of Afya's careers plan and curriculum into the schools, driving further efficiencies as we manage one system across all our schools. Last, maturation. This currently stands at 74% for Faculdade Ciências Médicas da Paraiba, and we will accomplish full maturation by 2024. So to conclude my remarks, our priorities are unchanged. We remain committed to our long-term capital allocation discipline with a balanced approach of growing the business organically and through acquisitions. During a time of extraordinary change and challenges this year, our teams responded with agility and executed well against our long-term strategical plan. We are well positioned to adapt and succeed over the long-term and with each acquisition, we are scaling our brand recognition. We maintain our health financial position, giving us the ability to adapt to the dynamic environment we are operating in. We remain optimistic about the future and our path to achieving it. I will now turn the call over to Luis, our CFO, to discuss the technical financial aspects of the transactions. Thank you.

Thank you, Virgilio, and good morning, everyone. Starting with Page 6 to see how Afya will look post transaction. As Virgilio mentioned, growing our business through acquisitions of medical seats is a key priority for us. We have made 4 school acquisitions since the 2019 IPO, adding over 500 approved medical seats. The graph on the left shows the contribution from each acquisition. At the time of the IPO, we had 1,452 approved seats and with the latest acquisition, approved medical seats are now at 2,023, an increase of 39% in 1 year. At the same time, the number of potential undergrad medical students has increased at 12% CAGR and stands at 14,486 in 2026. Moving next to Slide 7 for a summary of the transaction. We are acquiring 100% of the share capital of Faculdade Ciências Médicas da Paraiba or FCMPB. The total purchase price is BRL 380 million, with payments structured as follows: 50% or BRL 190 million to be paid in cash upon closing of the transaction; the remaining 50% is payable in cash in 4 equal installments through 2024, adjusted for the CDI rate. The transaction price is equivalent to 6.3x projected 2024 EBITDA. The transaction is subject to the usual and customary closing conditions, including antitrust regulatory approvals. We anticipate the transaction closing on October of this year. Summing it up, despite any short-term challenges posed by COVID-19, we remain confident in our strong cash flow and have balance sheet to manage through the current crisis and continue to grow our business. M&A is a key component of our long-term growth strategy, and we are confident that attractive opportunities will continue to present themselves to us that will further enhance our growth profile going forward. This ends our prepared remarks. We're now ready to take your questions. Operator, please open the lines for questions.

[Operator Instructions] And our first question will come from [ Gabriel Menendez ] with JPMorgan.

I have 2 on our side. First, on FCMPB, do you see the synergies of this deal more related to costs and improvement of margins? Or do you also see potential on top line on maybe re-rating of prices and cross-sell with your BU2 products? And the second question would be regarding the M&A landscape. We are seeing other players such as Ser and Cogna entering the medicine market. Do you foresee more competition for the assets going forward?

Hi Luis. This is Virgilio. I think your connection is not good. I don't know if Gabriel listen in your answer, but I can take the question here. I think it's a mix of many levers for synergies here, Gabriel. First, we can guarantee that we'll have 100% of occupancies of all seats that we have at that moment and a very fast and feasible integration in a very short period of time, so we can pull all the cost activities for our shared services and start leveraging this operation. Just remember that's a very strong and high-quality asset, has a good cash flow operating above 40% of contribution margin of this asset. So it's still maturing. We have almost 400 students to increase in the student base for the following years. So that's a very good opportunity to keep maturing, increasing the top line and leverage margins to our average in our operation. And also, it's very -- it's good to mention here that this region is a capital of Paraiba state, very close to Recife, Pernambuco. And they are well known with a very low density of specialist, of physicians. So not only it makes a lot of sense to have an undergrad medical program in this region. But also as an upside for continuing medical education. So as soon as we have the opportunity to start operation, we will plug our graduate programs, our portfolio to have some upside in cross-selling, upselling of all assets portfolio.

Our next question will come from Susana Salaru with Itaú.

I actually have 2 questions. The first will be related to the cross-sell, the potential cross-sell of Medcel and PEBMED on the recent acquisitions. And on the remaining part of the med school base, how fast do you believe the cross-sell will be start being -- will be showing in the results going forward within the cross-selling opportunities of the new acquisitions? That will be our first question. And secondly, if you could elaborate a bit more related to the faculty costs, how do you see it evolving going forward in the -- specifically in your latest acquisition where divisions are a little bit far away from the usual big cities? How do you see the cost of faculty evolving going forward?

Susana, your first question about cross-sell and our product for Medcel and PEBMED. I think that the highest opportunity for Medcel for prep cost is not the student base that we have there, but the market. As I answered to Gabriel on the first question, we have a low density of the specialists in that region. So they are looking for more specialization, not only for graduate program, but also for residency. So we can offer for the entire market and give more awareness to our offers using Ciências Médicas as one of the top of mind institutions, higher education institutions in that region. For PEBMED, I think it's in a very short term, we can offer our product. But also all the continuing education graduate programs, we already have an operation starting in Recife, very close. So we can -- we can close that region. That is very strategic in terms of leveraging our continuing medical education for BU2. In terms of faculty cost, Northeast region is recognized by more flexibility with the local union. So it's completely different from Southeast region. So I don't think that we'll be any close to what we have, and we are used to manage here in Minas Gerais states that we have a very strong union issues. Completely different from Northeast regions in terms of faculty cost and negotiations.

And about the second question, Susana, I can take the -- this question. It's Luis speaking about the pipeline. We are -- we analyze each one of these transactions, each one by itself. So we calculate the IRR of each one of these transactions. And then we -- the pipeline for the 4 transactions, can't see as with this price, we've disposed both each one of these transactions is analyzed by itself, okay?

Our next question will come from Vinicius Ribeiro with UBS. Pardon me, the next question will come from Thiago Bortoluci with Goldman Sachs.

We have one regarding average acquisition multiples. If we analyze past recent announced transactions, we see that your M&A has been closed for average multiples that are significantly higher than the ones announced by all the generalistic competitors. To what would you attribute this difference? And the second question is if you are really competing and looking for the same assets? Or if is there any difference in the overall strategy for M&A if compared to other players? That's our question.

Thiago, it's Luis speaking again. About the kind of targets we are looking, we're always looking for a target that has revenues from medicine and other health that are more than 6% at the maturity time. So we're looking for faculties that has this kind of profile. Our competitors in the latest transaction stands to get more generalistic units. So I don't think we are chasing the same kind of targets, of course, that we can find one of our competitors in some kind of deals. It's the market -- it's unconsolidated market. So -- but we are looking for this kind of target. And for this kind of target, we -- it tends to generate more synergies with us because we can do this cross-sell and upsell of products in this medical community that we want to establish. So these kind of assets, that's 100% being medicine at Ciências Médicas, I think it's more -- it fit more for us, and we can extract more value in this kind of transaction.

Yes. No. That's perfect. If I may, just a quick follow-up. In their conference call today, Cogna has just introduced a general strategy that is to start looking at medical courses to -- and most of that is being followed by the overall market, right? Given that there is scale in on-campus especially and the balance sheet that they have, do you think it changes even the competitive landscape for other assets? And would you consider them a risk for your M&A strategy going forward?

Hi, Thiago, this is Virgilio. This is a no-brainer that buying medical undergrad program institution makes a lot of sense in terms of rate of return. And all institutions that I know in more than 10 years, they were looking for this type of asset and the competition was there. So when considering Kroton, you have Cogna, as they have saying right now, the main point here, we are completely focused. If we cannot differentiate ourselves for the vendors, that we are completely biased, that we have 100% of our team dedicated to create a completely different environment, learning environment for medical programs, that will be not the asset that we are going to fight for. So we have to create this differentiation with the vendor. They have to understand that we have a completely different approach for the learning process to take their legs from here to the future, but competition was there. And of course, then for any large player as Cogna or any other public player in Brazil, it's a very good asset, more -- less risk in these difficult times. So the competition will be there. I don't think that they will have the differentiation that we have, not only in terms of synergy to extract figures, not only for the 6 years undergrad program. We are looking for 4 years relationship with these professionals. So I think we cannot only take advantage in terms of synergies, but also in terms of how we can take this legacy, the entrepreneur legacy, from now for the following years. So I think this is something that I would like to see a big differential for the place.

[Operator Instructions] Our next question will come from Vinicius Ribeiro with UBS.

Can you guys hear me? Hello?

Yes.

Okay. So I'm sorry, the other -- got on mute, the other time. So just a quick question, Virgilio. When we think about the M&A pipeline that you guys outlined during the IPO and then you afterwards did the follow-on, how can we take into account this slightly higher valuation? Does the specific view has a significantly higher IRR that justifies a higher multiple? Or should we kind of review our expectations for the value to be generated based under your current cash position?

Vinicius, it's Luis speaking. I'm going to start answer this one and then Virgilio is going to follow-up. What we do in each deal is we evaluate the cash flow, the expectation of the cash flow for each one of these deals, applying the playbook that Virgilio just present to us. The first one is to fulfill the -- all the seats. Then after we've made the integration with our shared service, then we implement our people plan and our unified curriculum. So when we have this playbook, we can establish in a period of time the returns and the increase in revenues and in cash flows from each one of these steps. So we apply this playbook for these institutions, and then we generate these cash inflows and evaluates the IRR that is generating this cash flow. It's important to highlight that in this cash flow, we just pay 50% upfront, and we have 50% paid in 4 equal installments. So that gives us, in discounting this in our work, bring us a better IRR. But we tend always to target institutions or transactions with a multiple or with a IRR of 20%. A little bit less, a little bit more dependent on the quality of each institutions. So this kind of target, we are looking for.

That's super clear. So just to see if I got it 100% right...

Just like to point here, Vinicius -- this is Virgilio, sorry. I think this recent asset here, it's besides the high quality, the asset that we are acquiring, has a very strong operational margin, strong cash flow and right reputation on all Northeast region. So it's completely different. And for us in terms of reinforce -- reinforcing our ecosystem, they have a fantastic partnership with local hospital that we can leverage, not only our local operation, but also offer to Afya student. That's a huge differential for us, and it's very important. And also strong in terms of our pipeline that differentiate ourselves from other players. Today, we have this offer, the B2B contract to other institutions, to other medical institution. We have almost 4 institutions using our learning system, helping them during the pandemic and also signing a management system, a medical learning management system, to help them for the learning process for all medical students. So this is very important to [ move ] our pipeline, create our reputation, differentiate ourselves from other players. We know a lot about learning and medical learning systems and differentiate a lot ourselves in terms of pricing and synergies that we can extract if we can conclude the acquisition. Sorry, there is no more questions. So I'd like to thank you, everyone, for joining us today, and look forward to speaking with you in the next quarter and the next opportunity. Bye-bye and keep you safe there. Bye-bye.

Thank you. This concludes today's Afya conference call. You may now disconnect your lines at this time, and have a great day.