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Edited Transcript of APT.AX earnings conference call or presentation 26-Feb-20 11:30pm GMT

Half Year 2020 Afterpay Ltd Earnings Presentation

MELBOURNE Mar 20, 2020 (Thomson StreetEvents) -- Edited Transcript of Afterpay Ltd earnings conference call or presentation Wednesday, February 26, 2020 at 11:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Anthony Mathew Eisen

Afterpay Limited - Co-Founder, CEO, MD & Executive Director

* Luke Bortoli

Afterpay Limited - CFO

* Nicholas David Molnar

Afterpay Limited - Co-Founder, CEO of U.S., Global Chief Revenue Officer & Executive Director

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Conference Call Participants

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* Ashwini Z. Chandra

Goldman Sachs Group Inc., Research Division - Equity Analyst

* Lafitani Sotiriou

Bell Potter Securities Limited, Research Division - Senior Analyst

* Sameer Chopra

BofA Merrill Lynch, Research Division - Head of Australian Research and Co-Head of Regional Telecom Research

* Siraj Ahmed

Citigroup Inc, Research Division - Associate

* Thomas G. Beadle

UBS Investment Bank, Research Division - Associate Director and Research Analyst

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Presentation

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Anthony Mathew Eisen, Afterpay Limited - Co-Founder, CEO, MD & Executive Director [1]

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Good morning, everybody. Welcome to Afterpay's half year results briefing for the period ending 31 December 2020. I'm Anthony Eisen, CEO of Afterpay, and I'm joined today with Nick Molnar, our Global Chief Revenue Officer and Executive Director; and also Luke Bortoli, our Global Chief Financial Officer.

We'll walk through our investor presentation that's been lodged with the ASX this morning. And if you turn to Slide 3, I'm very pleased to report another strong period of growth across our key performance metrics. Underlying sales and active customers more than doubled in the period-on-period results. Merchants are up 86%, and total income and net transaction margin are up 105% and 118%, respectively. As importantly, we materially improved loss performance while growing our top line over 100% period-on-period, and we'll talk a little bit more about that.

Some further key highlights of our results are outlined on the following page, Page 4. Global underlying sales run rate for Afterpay now is over $11 billion based on recent performance. Our global expansion is accelerating, particularly underpinned by the U.S. where underlying sales are now 5x higher than the same time last year. Momentum with market penetration, but also with the Afterpay merchants, whose brands are recognized globally, gives us the confidence and the momentum to continue expanding into new markets, and I'm very pleased to announce that Canada will be launched in this calendar year.

Active customers continue to grow, averaging more than 16,800 per day, which increased to nearly 23,000 new customers per day in November and December. Our active merchants continue to grow, both with very large key brands, which we'll go through shortly but also in terms of our small to medium business and midsized business rollout strategy, which continues to climb in all of our markets.

We're very pleased, as I said before, to see gross losses improve, notwithstanding the increased contribution from the newer markets. And importantly, as we get into later in the presentation, you'll see that late fees have contributed much less, continuing that trend downwards. But it still produced result where gross losses are coming down materially as well as our net transaction losses is a very pleasing result. It also speaks to the quality of the customer base we are curating and the differentiated business model we employ.

It's great to see our merchant margins at the top line also remaining stable for the same reasons. Nick will talk in a little while about our in-store growth in Australia and New Zealand because it's been very significant for us, it's an important differentiator, and we still see there's a very big growth opportunity in Australia but also globally as we plan to launch in-store in the U.S. in the coming months.

We have invested during the period to grow faster. And as Nick will explain as well, this is partly reflected in our pipeline of merchants that have not come live yet but represent very significant increased addressable market opportunity for us, not just in the new markets but in Australia and New Zealand as well. We believe we can exceed our midterm underlying sales targets that we presented to you a little while ago, and we'll continue to invest ahead of the curve.

We're confident we can achieve improved profitability over time in new and developing markets. And the blueprint for that is our performance in Australia and New Zealand, which as we'll explain in the presentation, we see a very sticky customer base transacting frequently, and that's paired with low losses and high margins. And what's been pleasing when we look at our new market growth, while it's been growing faster, that customer frequency level is tracking toe-to-toe for this point in the life cycle.

The following slide describes again our unique business model. I'm not going to spend too much time here, but it's important to remember why we're different, and in a lot of ways, why we created Afterpay in the first place. Our business model is different because it's aligned to treating customers well. Simply put, we don't seek to charge the customer or allow them to revolve in debt. This is different to traditional finance companies, and it's different to other companies that use the buy now/pay later banner. This is a really important feature because it links to what is, in our view, a very low-risk business model in comparison. We have the shortest duration book because we don't allow customers to revolve in debt, and we don't extend the payment terms. As well as maintaining good margins, we're able to generate high returns on capital employed under this model while still providing what we believe is the most responsible service to customers who want a budget to purchase as opposed to get further into debt.

If we turn the page again, we look at our business performance by region. Again, we've just outlined the statistics here for you in terms of the global metrics that we presented earlier. As you'll see, we're delivering sustained growth in a maturing Australia and New Zealand market. And obviously, exponential growth in the newer markets of the U.S. and the U.K.

I'll now hand over to Nick Molnar, just to go through some more detail in relation to each of the regions.

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Nicholas David Molnar, Afterpay Limited - Co-Founder, CEO of U.S., Global Chief Revenue Officer & Executive Director [2]

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Fantastic. Thanks, Ant. So just on Page 7, this gives us a bit of a summary on the ANZ market, really strong growth off a large base, and to me, it's really the blueprint for new regions and why we feel so confident to invest into the curve. So high acceptance rates that we've been able to achieve, coupled with really high-frequency rates from not just our older customer demographics, but the more recent customer demographics following the same trend really illustrates the strong growth of the market.

We have made a very conscious effort to push in-store, which represents a significantly greater opportunity than the online market just given that the share of online relative to off-line still remains low. And from a new vertical perspective, the ability to scale beyond fashion and beauty into health platforms, travel and other markets represents a really significant opportunity for us.

If we turn to Page 8, page 8 really illustrates the frequency curves over time that we've seen from our different customer cohorts. To me, it represents the undercurrent that sit within the business and the organic growth that we're able to see over time as the business matures. And we'll talk a bit later in the presentation about how that should transpire in the new regions, which are following the same frequency curve profile. But the fact that our older demographic -- sorry, our older cohorts are now purchasing almost twice a month or 23x per year really represents their love for our brand and how they continue to use Afterpay frequently as our platform grows into new verticals and expands off-line.

On Page 9, as importantly as frequency growing, what makes us very different from traditional credit products is as frequency grows, outstanding balances still remain low. So our outstanding balances remain at $211 as compared to credit card balances have a significant difference, and growth has been able to be achieved while bringing losses down in a significant way. So we're growing responsibly. We're learning. Our platforms are getting far more mature and more sophisticated. And our repeat purchase profile in Australia, now sitting at 98%, is really important because a consumer can only use Afterpay in the event where their account is not late. So naturally, over time, as you get more repeat customers, we are getting a better profile of consumer who has a better repayment profile because they can only shop in high-frequency levels while still maintaining low outstanding balance levels when their accounts are in good order.

So if we turn to Page 10, page 10 highlights a bit more detail on the in-store opportunity in front of us. So to be able to achieve more than $700 million of transactions through our off-line channel has been an amazing achievement by the team and in partnership with some of the best retail partners in the world and in Australia. The off-line market is a significant opportunity. So $140 billion as compared to online is significantly greater. So as we look to scale our network off-line, as our customers online start shopping offline and our ability to attract new consumers through the off-line channel represents a significant opportunity for Afterpay in Australia and, as Anthony alluded to before, soon to come in the U.S. in the coming months.

If we turn to Page 11, on the U.S. market we've been able to achieve growth 5x, half 1 last financial year. This is 18 months since launching into the U.S. market. And to be able to contribute 30% of the total group's GMV, now run rating at $3.8 billion, has been a significant achievement by the business. We acquired more than 1 million consumers in November and December combined. We now have 3.6 million customers in the U.S. market, so it holds more consumers than Australia presently. And while frequency levels are lower than Australia, they are tracking in a similar trend to the Australian market. So the blueprint of Australia really gives us comfort to invest into the curve. It gives us comfort that there are undercurrents in the U.S. business where, as our addressable GMV that is live starts to grow our share of card because we have higher frequency, we have higher new consumers, just organically, that business will start to drive more GMV off the same base that we have today.

So we've been able to partner with some of the best brands in the country. American Eagle coming live shortly represents a significant opportunity. Last quarter alone, they processed over $1 billion of sales through their business. So to be able to start to move and partner with the best retailers in the region has been an amazing achievement by the business and represents significant opportunity, both with who we have live and who we have coming live.

With regards to the U.K., on Page 12, the U.K. processed more than $200 million of transactions in the first 6 months of trade in H1 FY '20. So that was from a standing start. We went into region with no presence. But the ability to leverage our global retail partnerships to launch with ASOS, Boohoo, Marks & Spencer, JD Sports, all businesses that we did have existing relationships with in other regions, really gives us comfort to expand into regions like Canada and more broadly in the future. The U.K. business achieved positive net transaction margins, and the frequency curve in the U.K. is tracking at a higher rate than any other region has seen. So again, the blueprint of Australia gives us comfort of how these cohorts of consumers will follow and how our LTV continues to grow over time organically as the platform matures.

And just finally, before I pass to Luke, on Page 13, the profile of global partners that we now have the privilege of partnering with is just an amazingly privileged position to be in. The ability to grow into new regions, the ability to work with these partners, both online and then working with them off-line and build a proper partnership with these best retailers in the world, just represents such an amazing achievement by the team. I'm really proud of what we've been able to deliver over the half.

So now I'd like to pass over to Luke.

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Luke Bortoli, Afterpay Limited - CFO [3]

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Thanks, Nick. Turning now to Slide 15. Please note that in this section of the presentation, all financial results are presented in Australian dollars, unless otherwise stated. And any reference to pcp refers to the prior corresponding period of half year '19. Half year '20 represents a period of continued strong growth while continuing to invest to scale the Afterpay platform globally. All key top line metrics grew strongly on the pcp. Group total income or revenue increased by 96% to $220.3 million. This was driven by growth in Afterpay underlying sales across all regions supported by a strong merchant income margin. Pleasingly, gross profit or group net transaction margin also grew strongly, even with an increasing contribution of expected lower margin underlying sales from new markets. Group net transaction margin, or NTM, increased by 108% on the pcp to $107 million.

Notwithstanding increased investment to accelerate growth, the group maintained positive EBITDA, excluding significant items, of $6.8 million in half year '20. This investment was made with a view to exceeding our previously stated midterm plan underlying sales target and is outlined in more detail later in the presentation. Globally, Afterpay is seeing both a growing merchant pipeline and accelerating customer demand for the service, momentum which we're leaning into.

Turning now to Slide 16. Consistent with the group metrics shown on the prior page, all key Afterpay segment metrics grew strongly on the pcp, with margins, both at the revenue and gross profit level, either stable or expanding. Half year '20 saw strong growth in Afterpay underlying sales to approximately $4.8 billion in the period, more than double the pcp. This included a more than 5x increase in sales in the U.S.

Afterpay income, or revenue from merchant fees, increased by 111% on the pcp to $179.6 million. This growth was underwritten by the above-mentioned increase in underlying sales and a strong merchant income margin. The business also continued to show improvement in gross loss and net transaction loss, as referred to earlier. This was achieved notwithstanding the increasing sales contribution from the U.S. and the U.K., which have naturally higher early-phase losses. The net of all these metrics is that Afterpay's gross margin, or NTM, was $102 million in half year '20 with very strong growth of 118% on the pcp and remained stable as a percentage of underlying sales at 2.1%.

Turning now to Slide 17. Slide 17 provides some further detail on Afterpay's income margin. Afterpay's merchant income margin increased to 3.8% in half year '20 from 3.7% in the pcp. Merchant income margin increased despite a higher in-store contribution in ANZ and a growing contribution from the U.K., both of which have a higher proportion of enterprise merchants in the early growth phase.

Turning now to Slide 18. As mentioned earlier, Afterpay has demonstrated consistent improvement in gross loss and net transaction losses while rapidly growing underlying sales. Gross losses reduced from 1.2% in half year '19 to 1% in half year '20, more than offsetting a reduction in late fee income. As a result, Afterpay's net transaction loss percentage declined from 60 basis points to 50 basis points in half year '20 and improved by 24% on the pcp. Afterpay's continued improvement in losses reflects a continued investment in and evolution of our proprietary risk management systems, an increasing proportion of customers which are returning and improving customer repayment profile.

Turning now to Slide 19. Slide 19 provides a summary of the group's statutory profit and loss statement and further detail on OpEx investment in the period. The group's key expense line items below NTM and down to EBITDA, excluding significant items are employment; marketing; and operating expenses, excluding marketing. As flagged earlier in the presentation, substantial investments were made into these areas to accelerate growth in existing markets and expand our platform for further geographic expansion and product development.

Afterpay's statutory loss before tax of $35.8 million was impacted by one-off and noncash items, including share-based payment expenses. Please refer to the appendix of this presentation for a reconciliation of the statutory loss for the period to EBITDA, excluding significant items, of $6.8 million.

Turning now to Slide 20. Slide 20 summarizes the group's balance sheet position. Total cash, including restricted cash, increased by $192.1 million during half year '20 to $425.6 million at period end. This increase in cash was largely due to a $200 million equity placement to Coatue in November 2019. Receivables increased significantly to $761 million, in line with the continued growth in Afterpay underlying sales in the period. Debt increased to $416.9 million due to a warehouse facility drawdown to fund this underlying sales growth.

As Afterpay's receivables grow, liquidity also grows via the equity or drawdown capacity in our receivables warehouse facilities. Total liquidity, reflecting cash and equity in the warehouse facilities, increased by $62 million to $672.1 million at period end.

Turning now to Slide 21. Slide 21 provides a summary of the group's cash flow statement. During the period, the group had negative operating cash flow of $33.8 million after adjusting for cash utilized to fund receivables growth. This result was partially driven by the accelerated cost investment referred to earlier in the presentation. It was also negatively impacted by 2 additional days of merchant payments falling into half year '20, but related to underlying sales recorded in financial year '19 given June 30, 2019, was a Sunday. Excluding this impact, adjusted operating cash flow would have been approximately $5 million positive.

As mentioned earlier, cash ended the period at a very strong $402.5 million, or $425.6 million including restricted cash. This cash balance excludes approximately $33 million of additional proceeds from the share repurchase plan completed on 17 January 2020.

Turning now to Slide 22. During the period, the group undertook several important capital management initiatives. Firstly, a new USD 200 million warehouse receivables funding facility was completed with Goldman Sachs to fund U.S. growth. This is our second facility for the U.S. business. In aggregate, U.S. facilities now total USD 400 million or in excess of $570 million. Together with facilities in ANZ totaling approximately $520 million, the group now has $1.1 billion of total loan facilities.

Also, as mentioned earlier, current liquidity is $672.1 million which, when combined with headroom or growth capacity in our $1.1 billion of loan facilities, means we can fund underlying sales in excess of $15 billion above our current run rate.

Finally, during the period, the group extended the term of a number of existing facilities. When combined with the new USD 200 million facility with Goldman Sachs, the group's weighted average life increased to 2.1 years from 1.6 years at 30 June 2019.

To conclude this section of the presentation, in half year '20, Afterpay reported strong growth across all key platform and top line financial metrics. Underlying sales have reached a record $4.8 billion for the half year period, supported by strong growth in all regions. Margin, both at the revenue and gross profit level, have either expanded or been sustained. Afterpay has also continued to invest substantially in scaling the platform to pursue accelerated growth in all markets and to prepare for further geographic and product expansion. We're confident in our strategy as the dynamics of our successful Australian business play out in developing international markets.

I'll now hand it back to Nick to take us through the next section of the presentation.

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Nicholas David Molnar, Afterpay Limited - Co-Founder, CEO of U.S., Global Chief Revenue Officer & Executive Director [4]

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Thanks, Luke. So just on Page 24, to give some more context around our confidence to invest into the growth curve, new markets in the U.S. and the U.K. are accelerating at a faster pace than Australia at the same time since launch. The in-store Australia-New Zealand opportunity, as spoken about earlier, represents a significant opportunity for us to continue to grow into a very substantial-sized market, and in-store will launch in the coming months in the U.S. region. Our ability to leverage our existing retailers in the U.S. to follow how Australia rolled out off-line represents a significant opportunity. And thirdly, as we look at new regions and actively pursue and analyze our global retail customer base and our retail -- have the conversations with our retailers to remain retailer-led to go into new regions alongside our existing retail customer base, Canada represents a significant opportunity for us as we look to expand beyond our existing regions.

If you turn to Page 25, this slide is really important because the blueprint that Australia represents in terms of how frequency grows over time represents or illustrates that our current GMV doesn't currently contemplate a significant amount of future GMV that will organically be achieved as GMV grows as a result of new customers growing, frequency growing and, naturally, share of cart growing of this $26 billion that is currently live in the U.S. and the U.K. We have $4.5 billion of addressable GMV that is integrating or contracted, which as well obviously does not represent or isn't represented in our current numbers. So we're going to see strong organic growth occur from the retailers that are already live as the platform matures and continues to grow similarly to what Australia has seen in the recent years, and we have a really strong pipeline outside of even the $4.5 billion that's integrating and contracted that we're in significant discussions with.

On Page 26, from an Australia perspective, this page alone represents more than $20 billion of addressable GMV that we'll partner with this half year. These retailers as well aren't represented in the Australian numbers as they're in the process of going live or integrating. And the ability for us to expand into new verticals beyond our core market of fashion and beauty is illustrative of what we can do in other regions, such as the U.S. and the U.K., at the appropriate time. But our customers are shopping in other verticals across their landscape. And for our ability to partner with those in key retailers in those markets is a focus area for us.

On Page 27, on the left represents Google trends. So consumers searching for Afterpay as a brand. The scale that we've seen in the U.S. and the U.K. off a standing start where we had no brand awareness and, in a very short period of time, 6 months and 18 months, respectively, to be able to garner such strong interest to partner with the biggest brands in the country, has led to our ability to continue to develop our platform. So to send on average, 14 million referrals or leads to our retailers from our app or afterpay.com really sees retailers seeing this as a significant source of customer acquisition for them. It's a core part of the value proposition when they consider Afterpay in the landscape, and we'll continue to focus from a product and technology perspective as we build out that platform.

On Page 28, at the end of the day, this business is nothing without our people. And the ability to attract some of the best talent in the world from some of the best brands in the world, who not only are amazingly skilled but hold our culture, who have the same DNA as us, there are many people that aren't represented on this page that have really been incredibly additive to our business in terms of skill set capability, but we're really proud of the culture that we've been able to build and the ability to attract the world's best talent into our business.

Just finally, before I pass to Anthony, on Page 9 -- on Page 29. There's been significant partnerships beyond the retail landscape and innovation that we've been able to bring to light over the past half year. So as previously mentioned, Visa and Mastercard strategic partnerships represent cost optimization opportunity and ability to partner in a closer way, both in the U.S. and Australia. We launched our Lite Integration in the U.S., and we'll be extending it into other regions shortly. This represented a significant contribution of our addressable -- of our GMV that was processed in our platform in the last quarter of the year since it's gone live. So the ability to reduce the integration time that is required by retailers to go live on the platform is a core component of their consideration when they're assessing the viability of Afterpay and when they should look at integrating other solution.

Variable payment upfront, allowing us to increase limits from the perspective of the amount that a retailer can accept an Afterpay transaction but, at the same time, not increasing our overall customer exposure because more of the payment is made at the time of purchase where they're making a down payment at the time and the remaining still consistently 4 payments every 2 weeks, has allowed us to roll out to our 35,000 retailers in a short window of time and represents us expanding the addressable GMV that we already have live. And similarly, cross-border trade and the profitability that comes from that channel will be an area that we continue to focus on in the second half of the year.

So I'd now like to pass over to Anthony.

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Anthony Mathew Eisen, Afterpay Limited - Co-Founder, CEO, MD & Executive Director [5]

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Thanks for that, Nick. Just in the remaining couple of slides, I'd like to just bring together a couple of points that we've touched on and why Australia and New Zealand is actually a really important blueprint for our investment in new and developing markets and really our confidence around that strategy. As you dissect our results, you'll see that ANZ illustrates the power and the profitability of a maturing customer base. Australia has still got significant growth as it relates to those new verticals we spoke about and to in-store as well. But customers that have been on our platform for several years have a compounding impact on our returns. Not only are they enjoying our service, but losses come down and profitability goes up.

What's been very important to us in our whole trajectory over the last 4 years is that while we've been scaling exponentially, we're curating this customer base and really our long-term profitability in that regard. What's been very interesting about the privileged position to expand into the U.S. and the U.K. is that, obviously, those markets are bigger and they're deeper. And what you've seen is our ability to grow in those markets much faster than really where we were in Australia at the same point in the life cycle. But what's really important is the behaviors and the business models that are unfolding from that growth and the way that you'll be able to view that over time.

If you flick over the page on to the next slide, what we've tried to illustrate here is the dynamic that's occurring in the business, which is that our success compounds as more customers transact more frequently from a broader cohort of merchants across a larger global footprint. So we're confident in our investment strategy because we're seeing the way these dynamics are playing out, obviously over more compressed time periods in the U.S. and the U.K., but the way that they continue to evolve in Australia and New Zealand. And as you can see from this slide, we're probably obviously in earlier stage in the U.S. and the U.K. but with a much bigger addressable market while still growing very consistently and profitably in the Australian market -- Australian and New Zealand markets.

Early cohorts in Australia are now transacting an average of 23x. And the following slide illustrates what that looks like over time. So what you'll see is the frequency curve in Australia over the past 3 or 4 years continues to build, and that underpins our metrics as you've been able to follow. What gives us very good confidence in our strategy is that the U.S. and the U.K. is following suit, obviously in an earlier stage of the life cycle. But what we're excited about is the way that, again, customers are responding to our platform in newer markets; and our ability to invest ahead of this curve, but along with it, is really important to our future success. So hopefully, that gives you a sense of the underpinnings of our strategy and the way some of our metrics will pan out over time if we keep this consistent.

Following that slide, I just want to illustrate again that we're currently run rating ahead of where we expected to in our midterm plan. So we're now focusing on exceeding our midterm underlying sales target of over $20 billion by the end of FY '22, and we're aiming to reach 9.5 million active customers by the end of this financial year. So that's our target. And we see there being very strong logic in investing in that acceleration because it gives way to those compounding dynamics in our business model over time.

Our balance sheet is strong. We are very well funded to exceed our midterm targets, and we feel good about the way that we've been not only increasing those facilities in terms of quantum, but also in diversity and maturity, as Luke covered earlier in the presentation.

Touching on a couple of other points. On the following slide, we note some regulatory developments. Afterpay is supportive, as we've mentioned before, of an Australian industry code. We've been active participants and really wanting to take a leadership position in its development with other companions in our industry because we think that it's a very important exercise and will help the development of the whole industry. We also made a submission to the Australian Senate Committee inquiry into fintech and regtech last week with the Chair Elana Rubin, and we've obviously got all that material on public record.

We've also made a submission in response to the Reserve Bank of Australia's issues paper on surcharging. Afterpay provided arguments against the introduction of surcharging that focused on the fact that our service is really not comparable to existing regulated payment forms and provides considerable benefits to merchants and customers that go outside of that. I'd also just like to add that AUSTRAC is considering the independent auditor's report received as we previously announced, and we're obviously continuing work on our program in the meantime.

On the following slide, again, I'd just like to reiterate what an incredible team that is coming together in Afterpay and keeps expanding. We wouldn't be where we are today or be able to get into the future without some very special people, which continues to be complemented in different regions. Really humbled by the fact how our team, but also our merchant partners and customers, got behind a lot of the community drives around the bushfire appeal. It was a very spirited time for all of our stakeholders, and the amount of support around that was amazing.

From a Board perspective, delighted to announce that Pat Sullivan -- O'Sullivan is joining our Board as an Independent Nonexecutive Director. Pat is the Chair of carsales.com and has been on a number of other ASX-listed Boards. Pat's appointment follows the appointment of Gary Briggs, which we announced earlier -- or a few months ago. And obviously, our program in relation to developing the Board is -- continues to be underway.

So that concludes the formal part of the presentation. I'd just like to say we believe we've got the right strategy, the right people and the right business model to continue our momentum. We very much appreciate the support of all stakeholders, and we'd be delighted to answer some questions. Thank you.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from Sameer Chopra from Bank of America.

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Sameer Chopra, BofA Merrill Lynch, Research Division - Head of Australian Research and Co-Head of Regional Telecom Research [2]

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Great performance, by the way. I had just 2 questions. One, what's driving the lower underlying loss rates? Could you give us some color on what fundamentally sort of helps in driving down the lower underlying loss rates in the business? And then secondly, we've talked about Australia as a blueprint -- Australia and New Zealand as a blueprint, but what color can you give us around the underlying profitability of the Australia business? I know it's not fully cooked yet, but like what would be the sort of EBITDA margins? Or any color like that, that will help us figure out where the rest of the business may end up if it starts to look like Australia.

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Anthony Mathew Eisen, Afterpay Limited - Co-Founder, CEO, MD & Executive Director [3]

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Yes, thanks very much for your question. I might take the first part of that and possibly hand over to Luke for the second part. The first part was really around Australia and why losses -- well, sorry, why losses have come down overall. There's a couple of factors to that. Firstly, it is the impact of having a more frequent customer base build up over time, which reduces our losses. This is tied in a couple of ways to the absolute purity of our business model, which means that you can only use Afterpay if your account's up-to-date and all your payments are made on time. So you're buying to own, not to rent and kick the can down the road.

What happens is that that model is quite efficient at weeding out bad customers from good customers. And what you see because of the stickiness of our product is customers continue to purchase more frequently. That has a direct impact on losses. And while Australia is more mature and that frequency curve is very high now, it's also growing in the newer markets, right? So loss performance is improving everywhere as we penetrate those markets further.

It's also an area where we've made significant investment in over the years. We've built, I believe, a pretty exceptional team in risk and data analytics. And the more data that we have in our system overall also has an impact on our ability to make real-time decisions and improve acceptance rates at the same time. So it's a combination of that natural frequency increase and maturity of our customer base, with the quality of our data and analytics capability that goes with that. Those 2 things in combination produce the impact.

In terms of your question on Australia, I'll hand over to Luke. Thank you.

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Luke Bortoli, Afterpay Limited - CFO [4]

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Thanks, Sameer, for the question. So as Anthony mentioned, the Australian business is more mature than our other regions, but it is still growing. So it's hard to give you directional guidance on what a steady-state EBITDA margin would look like. But I think the important point is that EBITDA for our Australian business is positive, and it's positive and growing. You can see that in our segment note in the half year report. So growth in the Australian business, as is reported in the segment note at the EBITDA level, was approximately double.

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Sameer Chopra, BofA Merrill Lynch, Research Division - Head of Australian Research and Co-Head of Regional Telecom Research [5]

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Maybe if I can ask this slightly differently, that loss rate of 1%, how would that be different in Australia directionally? Are we saying it would be half of that? And what would be -- for some of your more mature customers, people who've been on the platform sort of 2, 3 years and maybe more, would the loss rates again be sort of half of the 1%?

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Anthony Mathew Eisen, Afterpay Limited - Co-Founder, CEO, MD & Executive Director [6]

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Yes. Look, directionally, Sameer, in Australia, the gross loss rate is less than 1%. And it's higher than that in new and developing markets. Directionally also, if I could just give you a little bit more color, a customer that's been on our platform for a few years and keeps purchasing frequently, when you look at those cohorts, losses are fairly negligible.

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Operator [7]

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Our next question comes from Siraj Ahmed from Citigroup.

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Siraj Ahmed, Citigroup Inc, Research Division - Associate [8]

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Just first thing, just on the annualized G&A run rate of $11 billion, just, I mean, from a -- how should we think of seasonality in the different regions? There's a lot. I mean do you expect it possibly in that pretty strong first half? Should GMV continue to grow half-on-half? Or just trying understand, a bit more color, from a regional perspective.

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Anthony Mathew Eisen, Afterpay Limited - Co-Founder, CEO, MD & Executive Director [9]

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Thank you for the question. It's Anthony Eisen here. We've got quite a bit of feedback, and it was difficult to hear the question. I think -- and please confirm this that your question was, how does seasonality impact our results and particularly as it relates to our run rate GMV. Is that the correct question?

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Siraj Ahmed, Citigroup Inc, Research Division - Associate [10]

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That's exactly, Ant. Exactly. So you are saying $11 billion based on second quarter, you did $4.8 billion in the first half, implies a $6.2 billion on a run rate basis, if we think about it, in the second half. How should we think of seasonality? And also, how you think your in-store contributing to second half GMV as well?

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Anthony Mathew Eisen, Afterpay Limited - Co-Founder, CEO, MD & Executive Director [11]

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Yes. I might take the first part. And then please add, Luke and Nick. Seasonality obviously does impact our business. But you've got a duality of the fact that we're growing above system at the same time. So you do have seasonal influence, but our growth rate is above system in all markets. What that means is that the impact of seasonality is more muted than it would be on a steady-state basis, but it does have an impact. There's also another point that I think is really important when you look at our performance over the next couple of years and you modeled it out. And that goes to the compounding effect that relates to the same number of merchants and the same number of customers but customers purchasing more frequently. And that has really driven a lot of our growth in Australia to date as well as the growth in new merchants and customers on top of that, which obviously compounds that dynamic.

So we're seeing that still occur in Australia and New Zealand. We're seeing that very substantially in the U.S. and the U.K. And even when you look at the merchants that came live in the U.S., for example, in the last quarter, right, they have not contributed at all fully yet to what I'd call run rate GMV because you do have a period of time where new customers come through those merchants. They then purchase more frequently. But importantly, our share of cart also increases over time.

In terms of in-store, we see that as a significant growth opportunity. Luke, do you want to just add some color on how we've been growing in that area over the last half?

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Luke Bortoli, Afterpay Limited - CFO [12]

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Yes. Sure. I think you can see that the stats in the presentation around growth in in-store, and at the moment it's approximately 1/4 of total underlying sales in Australia. We're obviously investing in that business to grow. So you should expect that there will be growth in that part of our business.

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Nicholas David Molnar, Afterpay Limited - Co-Founder, CEO of U.S., Global Chief Revenue Officer & Executive Director [13]

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Yes, and there's different dynamics in-store than there is online. Naturally online, you go live, the Afterpay tagline goes on the product page. And then within 24 hours, we process a substantial amounts of our retailers' online transactions. What you've seen in the growth curve of off-line take more time is, as we engage with store staff as they get trained, as the visual merchandising rolls out, as we partner with shopping malls and shopping centers, I mean we'll roll out a substantial activation around Afterpay Day, March 19 and 20. Now we'll do that off-line as well. So this all compounds over time.

I think one other point, just to add to Anthony's seasonality point, it also depends on when retailers go live. So like January last year, for example, DSW came live in the U.S., it's one of the biggest footwear retailers in the whole country in the U.S., that obviously made the seasonality of January appear lower than the reality of seasonality. But equally, American Eagle coming live represents a similar opportunity. So a lot of this is the timing. And when you're going live with retailers that are $500 million to $1 billion of online GMV, every day matters, like every day changes the contribution to our GMV, and then it compounds over time following there when they do get live.

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Siraj Ahmed, Citigroup Inc, Research Division - Associate [14]

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Sure. That's pretty clear. Secondly, just on the, I guess, your target for 9.5 million customers by end of FY '20, sort of implies -- it implies 2.2 million active customers or net adds in the second half. You added 2.7 million in the first half. Again, I understand that Black Friday and Christmas shopping is a key period for your user additions, but I would have thought that since you're still scaling up in the U.S., net adds should be higher in the second half and in the U.K. as well. So can you just talk through what you're seeing there?

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Nicholas David Molnar, Afterpay Limited - Co-Founder, CEO of U.S., Global Chief Revenue Officer & Executive Director [15]

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Yes. No problem. And I'm happy to come back to you on kind of specifics of the growth rates of new customers by regions. We tried to give a bit of color. There might be some rounding in that of what you just described as well. But we have seen an acceleration of new customers to the back half of the financial year, of half 1 financial year. Obviously, November and December represent a significant contribution of new customers onto the platform. What we are seeing as we expand in, like deeper into the broader fashion and beauty market in the U.S. and the U.K., we're seeing an acceleration of acceptance as our customers shop across more of their favorite brands. We are seeing a similar contribution as a new retailer comes live in terms of their incremental contribution to the new customer number. A lot of this kind of relates to my seasonality point because as you're looking to integrate retailers between April and June, and they're very substantial, the timing of that go-live will flow through the impact of new customer numbers.

I think we feel comfortable with the guidance that we put out around our new customer numbers. The reason why we focused on that number is because LTV grows over time, as frequency grows, as acceptance grows. So it's really important that while new customers will scale significantly in the back half of the year that didn't contribute to the full half of the year, that will continue to contribute further into the second half of the year, and our new customers accelerate in terms of growth on the platform, it means that future years will compound in an even more meaningful way.

So that is -- that's the most important thing that we have learned over the past 18 months as Australia has matured, and we've seen that profile start to come into place, that it gives us confidence in the U.S. and U.K. businesses in what's to come.

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Siraj Ahmed, Citigroup Inc, Research Division - Associate [16]

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Sure. And just lastly, just on the processing cost benefits. If we look -- I mean, how material should we think that the transaction costs can come down? I mean, is it 1 basis point or [even] 10 basis points. I mean just can you give us some color on that, please?

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Anthony Mathew Eisen, Afterpay Limited - Co-Founder, CEO, MD & Executive Director [17]

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Payment processing, is that...

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Siraj Ahmed, Citigroup Inc, Research Division - Associate [18]

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Yes. Because you said that Mastercard and Visa should regulate processing costs. So if you could just give us some color on how we should think about that?

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Anthony Mathew Eisen, Afterpay Limited - Co-Founder, CEO, MD & Executive Director [19]

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Yes, thanks for the question. Again, sorry for the delay. It's quite hard to hear your question over the line. But in relation to the processing costs and those relationships, we see there's going to be an impact, absolutely, in terms of processing costs going forward. But we see those impacts as being not just defined in one period to the next. We think there's scope to keep getting more efficiencies as it relates to our processing costs over time. Those relationships will develop as we do more things in each of the markets. So the impact on cost and efficiencies, we also expect to grow over time. So it's going to be an area that we just keep focusing on. And it's one of those areas that we think we can keep getting more efficiencies over time.

Just ask -- folks, just for efficiency, to have a couple of questions at a time, so we can be sure to cover as much ground as possible. Thank you.

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Operator [20]

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Our next question comes from Laf Sotiriou from Bell Potter.

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Lafitani Sotiriou, Bell Potter Securities Limited, Research Division - Senior Analyst [21]

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I just got a couple of questions. The first is in relation to the U.S. rollout in-store. Could you give us a bit of color around what the differences are between the rollout that you experienced in Australia versus going into the U.S. market? So remembering when you first started rolling out in the Australian market, there were integrations with some of the key merchant providers, and that helped you get from one to many. Is there a similar strategy in the U.S.? And how should we think about the market structure? And also, is there a lot of demand from your existing clients to move in-store?

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Nicholas David Molnar, Afterpay Limited - Co-Founder, CEO of U.S., Global Chief Revenue Officer & Executive Director [22]

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Yes. Thanks, Laf. It's Nick here. The retailers in the U.S. have a more significant technical team that focuses on their point-of-sale platforms and their in-store technology. So I don't think there's necessarily as much of an importance on the one to many. The difference between the rollouts and why it's important for us to learn from Australia is that the store networks that many of our retailers represent are in the hundreds or 1,000 retailers that you could get through one group, so the demand is definitely there. I mean the results that they've seen online naturally drives the interest from the head of retail and across the broader business, once they see the contribution and the growth that they're able to achieve as a result of implementing Afterpay.

So our ability to scale our go-to-market and leverage what we've learned in Australia is the most important aspect of our ability to launch into the U.S. region, but the demand has been very strong. Our goal was to get to a certain substance of consumers that we've acquired from the online channel before launching off-line, which we have now done. I mean we're approaching 5% of all millennials in the U.S. have used the Afterpay platform. So to take them online -- from online to off-line represents a significant opportunity, both for us and our retailers.

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Lafitani Sotiriou, Bell Potter Securities Limited, Research Division - Senior Analyst [23]

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Okay. That makes sense. Just a second question is in relation to the marketing spend, which is lumpy by -- in its nature. And you can sort of see, if you take a step back from the overall business, the merchant fee, net transaction margin, net loss rate, all largely tracking quite well. But the marketing spend has been quite a major swing factor. And as you sort of mentioned with the segmentals in those accounts, you can kind of see that it appears that there's not much marketing spend being spent in Australia and that's kind of being concentrated in the U.S. and U.K. So can we just get some color around, is it just an early stage ramp-up of spend where you expect to see such high marketing spend come through? And should that level off over time in both the U.S. and U.K. markets and obviously ramp-up in Canada? How should we sort of think about the lumpiness of the marketing spend?

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Nicholas David Molnar, Afterpay Limited - Co-Founder, CEO of U.S., Global Chief Revenue Officer & Executive Director [24]

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Yes. No problem. Happy to take that question. So just starting with Australia, we rolled out our first brand ad campaign, which is a big milestone for us as a business. There was a lot of research that went into. Obviously, we're incredibly strong in the millennial cohort, but how do we start to expand and grow the demographics that use Afterpay on the platform? So it was great to see that come to play.

There's a lot more global leverage that will come into play as we continue to scale. Geoff Seeley out of Airbnb, started with us recently and is now starting to work as we optimize the strategy and continue to grow. Really, the investment is largely alongside our retail partners that come live or are currently integrating. It's the best marketing opportunity you have when you can spend alongside an existing retailer to build the Afterpay brand, to grow share of cart, to drive more value to the retailer and to the Afterpay platform. So from our perspective, the spend in the U.S. and the U.K. has accelerated growth throughout the platform. And for us, the success of the pipeline is also us investing into the curve. The sooner we can get big retailers live, the sooner we can engage in those platforms, the sooner we see the results that we've seen on other retailers. And it gives us a huge amount of confidence.

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Anthony Mathew Eisen, Afterpay Limited - Co-Founder, CEO, MD & Executive Director [25]

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I'd just add to that, too, Laf, that we do see it -- using your terms as being sort of part of the ramp-up in nature because what some of that spend in the current period reflects is what you don't see in GMV and what is in our pipeline to come through, because a lot of these large merchants did come live towards the back end of the period. So it is, to use your terminology as well, lumpy in that regard. But what you're seeing is ramp-up-related in nature. But from our perspective, as Nick said, the compounding impact or the return on investment that we get from that, with working with our retailers, is very significant. We're accelerating in the U.S. and the U.K. at a faster rate. So it's not like we're doing a huge amount of things differently in terms of our retail engagement. We're just doing a lot more of it. And you see that in the fact that we're accelerating.

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Nicholas David Molnar, Afterpay Limited - Co-Founder, CEO of U.S., Global Chief Revenue Officer & Executive Director [26]

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Sorry, just one more point, Laf, the growth of new customers of 1 million over November-December also represented the strong pipeline that we brought live over that period. So it's a marketing spend that wasn't contributing to the half year. So as we accelerated customers significantly towards the end of the half, that will contribute in a more meaningful way that wasn't represented in our first half GMV.

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Operator [27]

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Our next question comes from Ash Chandra from Goldman Sachs.

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Ashwini Z. Chandra, Goldman Sachs Group Inc., Research Division - Equity Analyst [28]

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Just a couple of quick ones. Your net transaction profit margins, they seasonally tend to be stronger in the first half -- sorry, weaker in the first half versus the second half because, I guess, your sort of loss rate is a little bit higher in that first half in and then around the festive season at the end of the period. Is there any reason why this year, we wouldn't expect to see that same degree of seasonality in that sort of margin first half versus second half?

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Anthony Mathew Eisen, Afterpay Limited - Co-Founder, CEO, MD & Executive Director [29]

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Thanks for the question, Ash. Look, I think those dynamics definitely are there. But I'd add another one, which is important to recognize too and not to sound like a broken record, but new markets are accelerating at a faster rate. So that dynamic I think is prevalent, but you also have the additional dynamic of increasing contribution to overall GMV by these newer and developing markets, which are at different stages of the cycle. So those metrics will blend in differently depending on which point we are in the cycle. But yes, in answer to your first question, we think those dynamics are relevant.

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Ashwini Z. Chandra, Goldman Sachs Group Inc., Research Division - Equity Analyst [30]

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And can I ask with respect to some of these one-off costs, they do tend to be reasonably regular in nature; can you give any indication as to whether you think second half will have something more that we just need to be mindful of? Obviously, things like AUSTRAC and all -- I was trying to understand, but that some of the international investment keeps being put in that line. I was wondering, is there much more to come in the second half?

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Anthony Mathew Eisen, Afterpay Limited - Co-Founder, CEO, MD & Executive Director [31]

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In terms of those one-off costs, sorry, again, the line is not terrific, Ash. You were talking about just one-off costs particularly?

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Ashwini Z. Chandra, Goldman Sachs Group Inc., Research Division - Equity Analyst [32]

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Yes, yes. So one-off costs, you -- yes, I guess, they've been a bit more regular in nature than I would have liked to see. So I'm just curious whether or not there's anything that we should be aware of in this second half that will also be booked as one-off in nature?

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Luke Bortoli, Afterpay Limited - CFO [33]

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Not at this stage, I mean, there will be significant investment that goes into launching in Canada, and there may be some one-off costs associated with that, but nothing material at this point.

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Ashwini Z. Chandra, Goldman Sachs Group Inc., Research Division - Equity Analyst [34]

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Okay. Terrific. And just one last question on the regulatory front. One of your peers said it had some issues with the California DBO recently. But in the release that the DBO made in and around the resolution of that issue, they'd indicated that companies that have previously been licensed may still be under review for whether or not their past practices were in compliance with California lending laws. And I was just wondering, in that context, whether or not you're aware of any outstanding issues you have with the DBO in and around that? I mean they don't name any company. I'm just wanting to make sure there's nothing we should be aware of in the background in California.

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Anthony Mathew Eisen, Afterpay Limited - Co-Founder, CEO, MD & Executive Director [35]

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Thanks for your question. Look, as you'd completely expect, we engage with regulators, both in Australia, in the U.S. and the U.K. We wouldn't talk specifically about particular discussions ahead of time or ahead of when there's something material to say. But what I can tell you is that we think that our engagement across the board is very good. We think that every time we do speak with regulators that we're explaining our model well, and they get to understand the differences in terms of what we do compared to practices that have occurred in more traditional industries.

Where we're at in terms of our flexibility as a business, preparations as a business, et cetera, to work under various models, if I can just refer to the U.S. regularly, generally, we feel pretty good about that. But we'll continue to engage, but we don't feel that there's any reason as to why we can't engage or operate under various models that will have any material impact on our business going forward. So we feel like that's the position, but it's hard to comment on specific matters with regulators particularly, but we feel good about our position and how we're engaging.

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Operator [36]

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Our next question comes from the line of Tom Beadle from UBS.

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Thomas G. Beadle, UBS Investment Bank, Research Division - Associate Director and Research Analyst [37]

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I just had 2, please. Just firstly, on your receivables, just has there been any material changes in the composition of the receivables and provisions just in terms of their aging versus the aging analysis that you provided in last year's full accounts? And could you also highlight any differences that you're seeing by market? For example, should we be saying fewer areas in Australia as a proportion of total receivables versus newer markets?

And just on regulation, Anthony, you've mentioned to the Senate Committee recently, the regulatory uncertainty in Australia has ramifications on your overseas growth. So would you be able to expand on the specific regulations of areas of the uncertainty that are inhibiting you? And also what you think needs to be resolved?

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Luke Bortoli, Afterpay Limited - CFO [38]

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Thanks, Tom. I'll take the first question in respect to receivables. There's nothing material that we see in terms of aging receivables. But what I would say is that we look more at our analysis in respect of gross loss and net transaction loss. And this goes to the second part of your question. There are obviously differences in losses by region, which we've spoken about, and we see higher losses in our new markets as a result of a higher proportion of new customers. And we've seen significantly lower losses at the same point in time by comparison in Australia, which is a more mature market with a higher proportion of returning customers.

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Anthony Mathew Eisen, Afterpay Limited - Co-Founder, CEO, MD & Executive Director [39]

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But there's been no change in there, the policies in terms of the way that we record receivables in any market from prior periods. So it's Anthony here on your second part of the question. The comments that I made at the Senate meeting was actually more in line with historical context and what our experiences were like going into new markets as a young company where we hadn't had the opportunity to engage with retailers and other stakeholders in that market. We simply made the point that when you're a new company that's growing strongly in a new market that whenever there's reference to any regulatory dialogue or activity in a home market, there's a lot of misinterpretation at times that goes with that. And you cannot basically get around to all of those particular stakeholders as a very young company to explain the differences and the dynamics.

So my comments at the Committee was more historical in nature. We feel like, as it exists today, actually, that the more dialogue and the more penetration that we have in the market, a lot of this can be readily explained in dialogue. And we're in a different position today in the U.S., for example, than where we were 6 to 12 months ago or 12 months ago, when we were just getting going. So there was context to my answer, and I think that is quite important.

Overall, though, I thought the dialogue with the Committee was excellent because it really was attuned to the issues facing high-growth companies that can represent an export industry for Australia. So talking about the way that regulatory bodies can combine and have dialogue with relatively young, fast-growing companies that don't neatly fit into boxes was a really good part of the discussion. But that's the context for you.

We probably have to cut it off just given the time and the hands that are waving at me given the hour. But look, we'd be delighted to follow up with more questions as we see different investors and groups over the next couple of days. If we haven't got to particular questions on the phone, please get in touch with us, and we'd be delighted to continue that off-line. But I thank you very much for your attention today, and look forward to speaking to a lot of you shortly. Bye-bye.