Klarna Group plc (KLAR) Earnings Call Transcript & Summary

Yes. I think that it's all about what we call like Visa, Mastercard parity, right? So you want to be accepted. You want to have as many acceptance points as possible. that is additionally important when your primary customer acquisition channel is to be present at the checkout, right? Because the more acceptance points you have also means that you're growing the number of user base and the number of people that use the product. So what we concluded is that people have chosen different strategies. Some companies in our sector tend to offer both PSP acquiring products and by alkylated products. And we saw that we did not want to compete with our distributors. So we have chosen the path of being pure in what we do, and that has strengthened our relationships. But there's a few other things that were important. The other thing is if you work with these large PSPs like a Stripe or a JPMorgan and so forth, for you to truly be able to be default. So what does the fault mean, right? It means the merchant comes to them and says, "Hey, I want to sign up for payments, either they get Visa and Mastercard and then they have to take the additional choice of adding claw-hour some by now palate provider or it's part of the fault standard package. And our Holy grade was always to be default. We part of that standard package that you get when you sign up because we knew that we were going to reach millions and millions of acceptance points, that's what's going to be necessary to work closely with these distributing partners. That's important. But for that to be relevant, you have to have a few things. You have to have international presence because a lot of the retailers will not sell to a single market. So you can't -- the problem for the PSP will be, well, we can only turn them on default in 1 market but not in the other. So they like the fact that Klarna offers so many markets that we have so broad coverage because that allows them to really make it default, right? Second, you need to have payment methods that are relevant for low-ticket everyday spend mid-ticket that I already spoke about and the high ticket. So that if you're on a subscription merchant or some other, you still have a relevant offering because otherwise, again, it's not viable to say your default because you will have to select which of your merchants, this is actually a relevant product for. So those were very key for us to have all types of payment methods, debit, credit, high ticket, medium ticket and international presence, and that has unlocked this ability to then go default with these large partners that do trillions and trillions of dollars of volume -- and that now grows, as you saw, we have a significant growth this year in number of acceptance points and merchants as a consequence of that. And we continue to believe going to be an important part strategy and the foundation for continuous growth for the coming years.

Yes. And just on economics, how does the PSPs price Klarna when they distribute it?

So it depends, obviously, because these partners depending on whether they're SME-focused or enterprise-focused will price differently. But for us, it's very effective and great distribution channel. And I would also say, in addition to you have to remember that it actually means less sales cost, right, because we don't need to do the cells ourselves. We don't have to have salespeople calling all these merchants. We don't have to do the same lot marketing. We get more through the distribution channel. So we find it a very cost-effective.

Got it. All right. I want to talk through the topic of AI and operating leverage. Klarna has talked a lot about being an early adopter of AI internally. Margins have improved, but are still relatively close to breakeven at the moment. So how do you think about the ability to bend the cost curve over time? And then how do you think about the incremental margin profile of the company from here?

Yes. So we -- I mean what we've already publicly shared, right, is that we were early to launch one of the first like AI customer service agents at that point of time, the equivalent of about 700 people's jobs. Since then, we now -- I think the last -- 6 months ago, something we shared a new updated metric that was 850. So it's actually growing that share. And it's very cost efficient. We, at the same point in time, try to communicate effectively that in the world of AI, we think AI is going to be the cost-efficient, fast customer service. I can see like, for example, the most important metric was actually that customer resolution time when chatting from a human was 12 minutes and an AI was 2 minutes. So it really made it much faster, right? But we wanted to offer a human support as kind of the VIP experience with higher quality. At the same point of time, if you look inside the company, we used to have a revenue per employee of about $400,000. It's now $1.4 million. So we've doubled revenue in the last few years, and we have recruited less than the natural attrition of the company. So we have not done any major layoffs. We have simply made sure that the recruitment rate is lower than the natural attrition rate that usually for a tech came like us runs in the 15% to 20%. And then we have proactively seek out efficiency opportunities in the company where I would argue that AI has contributed. It's not always -- obviously, some of it is just efficiency gains that we've had by the focus of it. But that then has grown revenue per employee to about $1.4 million as it is now with the combination of those 2. And we continue to be very optimistic that AI allows us to continue on that path of productivity, revenue and cost optimization throughout the company. So I think we -- what I hear and I talk to others, I get the impression that we are fairly far in the adoption and learning of how to utilize this internally, and there's a good understanding of it, which is helping us in that regard.

And efficiency is important, but maybe switching gears to more revenue opportunities around AI. Can you talk about how Klarna is positioned for agentic commerce and how you think about the past scaling of broader age into commerce volumes?

Yes. So I think, again, the most important to me is that you have preference. If you have preference with your consumer, it doesn't really matter if it's a generic, other commerce, you will have preference and you will have volume and growth. that's the key one. But taking that aside, no, I think it's very exciting for us. We have announced some partnership with OpenAI. One of the reasons they were interested in working with us is because for every transaction we do different than the traditional networks, we carry SKU level data. So what that means is we understand not only that you spent for $200 at that merchants, we often know exactly the items and products that you bought. And as you think in a world of Agente Commerce and personalization, that kind of information becomes extremely valuable. The more the agent knows about you and your purchase habits, the more likely it is to be able to recommend you and help you. So there's been great demand in partnerships because of that unique aspect of Klarna and also the fact that we actually operate one of the largest product catalogs across Europe and the U.S. in the world. I think Google Shopping is large one, but then after that, this is one of the largest. This is due to an acquisition we did in the Nordics a few years back. And that's also helpful because for Agent commerce to function, it's important to know not only what products exist, but no what exact price they're being sold at right now and what exact inventory exists right now. And this is what that brings to the mix. So that has also been in great demand. So I think there's a lot of strength in Klarna that allows us to be Very relevant in the agentic commerce space.

Yes. Okay. I'm going to jump around a little bit. But I wanted to talk a little bit about the broader thesis on Klarna from an investor perspective. I think that thesis since the IPO has been that as Klarna expands into higher-margin products, higher-margin geographies, fair financing and UBS playing a role there. you could see gradual expansion in the transaction margin after a period of depression kind of late last year as a lot of these products are scaling. So margins are on pace to exit this year, still a bit below 2024 levels. Is that the right thesis to think about the trajectory of margins over the long term? And how do you think about the time line to which we could see stronger unit economics play out in the form of higher margins?

I think we have focus very much on the transaction margin dollars because we think that going forward is the right metric to talk about and focus. So we're hoping to -- we hope that people have noticed I think that the -- that is the key thing that I focus on every day into the business is like how do we grow that transaction margin dollars? What's -- what are the activities that we can take. And -- and if you look at it generally, if you come back and focus on the buying out player the mid-ticket segment, I'm very pleased to see that the transaction margin in the U.S. has improved significantly from a year ago. It's now in the 23% gross margin -- transaction margin kind of level. And if you look at our established markets, it's in the 60s, that's what some of the established markets are. So I think that is obviously a continuous focus for us.

Okay. That makes sense. Another question that we got post the quarter was just on the cadence of volumes in the back half of the year. You mentioned a couple of large partnerships, Apple, in particular, Southwest that are going to be ramping. The question that we've gotten is you're lapping a period of really impressive implementations last year, Walmart, Airbnb, eBay, Expedia, all the names that we talked about at the time of the IPO. And so -- can you talk about the shape -- can you talk about how pipelines look today versus a year ago? And how you feel about the cadence of new merchants coming on board in the back half of the year?

I think you mentioned already, the ones that you mentioned, I mean, Apple just went live about a month to go, and obviously, today with the announcement. So -- and then Sopwith with airlines, I'm not sure is live. I think it's only announced that the partner is it live as well, Nicholas. It's -- it's announced but not live exactly. So the point is that that's obviously an interesting new experience for us because as a private company, these things wouldn't matter as much. It would be like, yes, they're going to come live eventually. Now we are obviously much more focused on the exact timing, the lapsing and so forth. But generally, if I look at the pipeline, there is -- we are still a tiny fraction of the total payments volume in the U.S. If you look at any report, you will tell you that is taking market share that it is growing as a phenomenon. There's adoption among the consumers. And there is still a tremendous amount of merchants, specifically in new verticals and segments that still do not offer it compared to what we're used to in Europe because you have to remember, in some of our markets, -- if you look at the more -- like the very old markets that we've been for a long period of time, be it in the Nordics or in the German-speaking countries, you will see can across every vertical. -- every type of merchants and so forth. And that's definitely not the case in the U.S. yet and not in some of our newer European markets like Spain, France and Italy, they are also showing great growth in the U.K. either. So I think that, that like vertical expansion is 1 of the big opportunities going forward. And obviously, we try to make sure now that every time we lapse a big launch, we try to make sure there's a new 1 coming in. That's part of the focus.

Yes. Okay. So obviously, a lot of growth in the business, a lot of new volume coming through the pipes. One of the questions that we've got post quarter has been around the funding strategy and the philosophy around how Klarna is kind of managing the balance sheet some of the exceptional growth the company is putting up. So as you think about that, as you think about the move to some of these loan sale agreements over the past year, how do you view the funding strategy longer term? Is this a permanent shift? Or is this a change in the funding strategy to accommodate the outsized growth in some of these partnerships that you're seeing?

So the core advantage and an important aspect has been that like over the economical cycles that I have been with Klarna, I was in Klarna in 2007, I've seen it in 2013 and so forth. The best form of funding is deposits the post is the best stickiest. And in addition to that, what's really attractive about our deposits is that they are fixed term long durations, 12 months. So it means that they are very sticky, very long-term durations compared to, as I said, our balance sheet that we turn around so often. That's the key, and it's also a very cost-efficient way. Now what we have increased in the last year is that we have -- thanks to the amazing work of Niclas. We have increased the amount of forward different forward contracts, different ways to offload the balance sheet and so forth. And that comes at some expense at the margin, but it also unlocks even more capacity. I think that what you see is that if you think about it in decades, what you're going to see is in because you always focus on the return on equity and you think about how you manage your balance sheet and the volume growth, you're going to see in heavy expansion areas that it's smart to use these forward contracts and these additional levers to allow yourself to really keep the growth pace that you want -- and then in other parts, in phases where you are seeing slightly lower growth, you may bring some of that volume down -- volume back, sorry, not down, but pulling back in order to increase your return on equity and the profitability of those deals. So that's just a smart way to build the bank and to grow a bank over like a very extended period of time. And I see that with some of our peers when they slow down in growth, they start bringing more volume back that increases their profitability and returns because that's the natural thing to do when you're in that pace. It's just a question of where you are. We have been in a very expensive phase. We have expanded a lot in the last year, and it's been natural as a consequence to -- also for diversification reasons and so forth, to use more of these contracts. And I think right now, it's the right thing to do so. might be over time. In a few years, we start bringing some of that back again. So it's just a question of where you are in that cycle.

Okay. Maybe you could just talk about investment spending. I know this is one of the comments -- one of the comments you made on the earnings call that Klarna is investing in growth in the back half of the year. Can you talk through the complexion of those investments and how you think about the return on that spend?

Yes. I think -- I mean, we are very much a retail business, more than maybe somebody -- something people recognize. So it means that we have a lot of volume in the fourth quarter. A lot of seasonality due to e-commerce and Christmas sales and all of that on Black Friday and all of these things. This obviously also ties to where we tend to do a lot of our marketing and activation strategies with our merchants. One of the things I find very interesting is that if we take any merchant, right, what will tend to happen is when we do marketing activities and if we do them at the right time of the year and if we do it in the right way with our partners, what happens is you will see us be, let's say, at this share of checkout, then during the marketing activation, it will grow dramatically. But then after the marketing money is spent, it will come back and stabilize at a higher level than it was before, right? And this is what's very fascinating. So we try to do that at the end, especially during -- we take these opportunities during Christmas sales and so forth to make that investment because it helps us next year, right? We grow that share of checkout through these. So that's part of the focus for Q3 and Q4, and that's what you're also seeing in the numbers that there will be more of the spend. And that's kind of 1 thing we have done historically always because it really pays off in the long run.

Got it. All right. We've got about a minute left. I want to just hand it over to you for this last point. Klarna has been an innovative company. I've been around the block for many, many years, still growing very rapidly. What can we expect in the coming years from a product and a business perspective?

Well, look, some of you may have noticed, I decided myself to purchase shares recently. So I'm a big fan and supporter of the company, and I believe in its future. I -- right now, the focus is on the transaction margin dollars and eventually to turn that into EPS when that materializes. That's the focus. I think that the services we have, the market coverage we have today the products we offer. There is not much more to wish for us, to be honest. What it is more about is how do we get the adoption rates up. how do we get more users? Like some of you may not even be familiar. We actually have Klarna Mobile in the U.S. A few thousand subscribers are using us for phoning with them, right? Like -- so there's a lot of features live, but the question now is how do we grow the adoption rate of these products. And that's the phase that we're in right now. And that all translate then into the growth of the transaction margin dollars, whether it's products that are balance sheet has balance sheet implications or products like subscriptions, marketing revenue and other products that are doesn't have any balance sheet implications or any risk associated with it. So like right now, it's just like it's not doing more things. It's doubling down on things that work. and really focusing how that comes through into the transaction margin dollars and then eventually longer term on the EPS as well.

Okay. Understood. That's a great place to leave it. Sebastian, thanks for joining us today. Really appreciate the conversation.

Thank you.