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Edited Transcript of FALABELLA.SN earnings conference call or presentation 29-Aug-19 4:00pm GMT

Q2 2019 SACI Falabella Earnings Call

Santiago Sep 11, 2019 (Thomson StreetEvents) -- Edited Transcript of SACI Falabella earnings conference call or presentation Thursday, August 29, 2019 at 4:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Alejandro González Dale

S.A.C.I. Falabella - Corporate CFO

* Andrea Gonzalez Bayon

S.A.C.I. Falabella - Head of IR

* Gaston Bottazzini

S.A.C.I. Falabella - Corporate CEO

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Conference Call Participants

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* Antonio Gonzalez Anaya

Crédit Suisse AG, Research Division - Senior Analyst of Latin American Equity Research

* Antonio Hernández Vélez Leija

Barclays Bank PLC, Research Division - Research Analyst

* Gabriela Benjamin;BlackRock;Analyst

* Julie Chariell

Bloomberg Intelligence - Senior Analyst

* Robert Erick Ford Aguilar

BofA Merrill Lynch, Research Division - MD in Equity Research

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Presentation

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Operator [1]

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Good day, ladies and gentlemen, and welcome to the Falabella conference call. My name is Carmen, and I'll be your coordinator for today. (Operator Instructions) In the first part, Ms. Andrea Gonzalez Bayon, Head of Investor Relations, will present a summary of the consolidated results for the second quarter of 2019. Following this, Gaston Bottazzini, CEO, will present a strategic update of the company, and we will then open a question-and-answer session, where Mr. Gaston Bottazzini and Mr. Alejandro González, CFO, will be available to answer your questions. (Operator Instructions)

Now it's my pleasure to turn the call to Andrea Gonzalez Bayon.

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Andrea Gonzalez Bayon, S.A.C.I. Falabella - Head of IR [2]

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Good morning, everyone, and welcome to Falabella's Second Quarter 2019 Earnings Call. I'm Andrea Gonzalez Bayon, Head of Investor Relations. Joining me on the call today, we have Gaston Bottazzini, Falabella's Chief Executive Officer; and Alejandro González, Falabella's Chief Financial Officer as well as the rest of the IR team. I will begin with a brief highlights of the results of the period. Following that, Gaston Bottazzini will share some comments. We will then open up for questions.

I would also like to remind you that since January 2019, we started accounting for IFRS 16. 2018 was not restated hence figures are not comparable. To ease the analysis, we have included pro forma figures for the consolidated business and by segment at the end of the presentation.

Please move to Slide 4. We are pleased with the growth on our online channels, which represented 24% of our department store sales, 4% of our home improvement and more than 1% in total. Net merchandise value for the group increased by 46% year-over-year, reaching USD 339 million on the last quarter. On our financial division, online financial product sales reached USD 338 million. During the quarter, we continue working on integration of Linio, while net merchandise value grew 30% driven growth from Peru and Chile.

Now please move to Slide 8 to begin with our brief review of our quarterly financial results. Revenue increased by 2% to $3.4 billion in this quarter. Gross profit remains flat totaling $1.2 billion. Operating income contracted 8.5% and 13.6% adjusted for IFRS 16.

Moving on to the next slide. We will take a closer look to operating income. Normalized operating income for the quarter reached $311 million but was negatively affected by IAS 29 in $9 million, and under operating level, which were partially offset by a positive impact of $17 million from IFRS 16.

Linio's operations also [reverberated] the results in $11 million. On the following slide, we present our financial leverage ratios. As of December, our net to EBITDA was 3.6x and the duration of our debt, 5 years.

Now we will listen to a few remarks from Gaston Bottazzini and after that, we will open up for questions.

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Gaston Bottazzini, S.A.C.I. Falabella - Corporate CEO [3]

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Good morning, everyone, and thank you for joining for us today. We had a challenging first half of the year, as you know, with consumption particularly slow in Chile, pressuring both our sales in the retail formats as well as our margins.

Though we're still navigating a challenging environment and signs of recovery are not clear in terms of consumption dynamics, we feel very pleased and optimistic about the progress made towards transforming Falabella and how our clients are responding to that process. Even in a slow consumption environment, we have had a very strong Cyber Day, outperforming our history and the industry.

Our commercial proposition, online platforms, and our teams have all contributed to these results by adapting better to consumer expectations. We have made progress on all our strategic priorities, and we have seen that our customers are already starting to benefit from our ecosystem in a way they have not experienced before.

We are closer to them and increasing our interactions. And I would like to give some examples of the progress we've made. In logistics, we have increased convenience by expanding our cross format click & collect network in the whole region and started operating our first fully automated click & collect. This has increased store traffic, and particularly, store traffic of customers that have not shopped in some of our formats.

We have concluded the ramp-up process of our new distribution center in Chile. We have started operating a dark store in Tottus, in Chile as well. And we have started offering 90-minute delivery from our Falabella stores in Chile. More than 75 of our assortments in the past quarter has been available for 24-hour delivery. And we have finished building our new distribution center in Peru, which is specialized in white goods and will start operating in the next 30 days.

Some examples in financial services. By this month, more than 30% of our financial products region-wide have been originated online. In Chile, this number has exceeded 50%. We have continued to roll out our 100% digital onboarding process for card opening and checkout process in our retailers. Credit card opening online has grown from about 600 cards a year ago, when we launched this process to more than 50,000 cards or about 15% of our total card opening this month.

We are moving aggressively into digital banking and as we do so, we are improving our clients' loyalty. We have discovered that application usage has greatly increased client loyalty, and we foresee that as we move at this rate, we will become an increasingly digital bank.

In terms of the development of our marketplace, we have continued to increase Linio's product offering, increasing SKUs by 50% in the last year. As we improved its proposition and relevance, we started seeing a change in organic traffic trends, which is now growing at high double digits. We are happy that after a year of operation, we have taken Linio from negative growth to double-digit expansion of NMV. We have now started dedicating additional marketing resources and expect to see additional acceleration in the coming months. In fact, we have already seen this during July.

In terms of technology development, our SG&A expansion has been driven in to a great degree by our expenses in technology and logistics. We have partially offset this with efficiencies across our operations. In technology, we have been focusing in the overhaul of our IT architecture to make it more flexible and scalable and allow us to move faster in terms of developing functionalities for our customers. We have also focused in improving our user experience and user interface across digital and physical channels, releasing new functionalities in our apps to better track deliveries, to check in-store information on products, et cetera.

We have also integrated new app features to the Banco Falabella app in Chile and the rest of the region. In our web pages and apps, we have also rolled out our new search engines that have greatly improved conversion rates. To do all of this, we are consolidating our teams by increasing or expanding our development hub in India, expanding our digital factories in Chile and developing a new digital factory in Argentina that will be dedicated to financial services and payments.

In all, we are totaling now more than 2,000 employees across the group dedicated to this. We are committed to breaking the barriers between online and off-line and to bringing together our stores and digital channels to adapt to the way customers really want to shop. Thank you.

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Andrea Gonzalez Bayon, S.A.C.I. Falabella - Head of IR [4]

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Now we will open up for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question is from Antonio Hernández with Barclays.

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Antonio Hernández Vélez Leija, Barclays Bank PLC, Research Division - Research Analyst [2]

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Well, this question is regarding the financial business. It was quite solid during the quarter. You've been posting quite very good growth there. Could you give an outlook on your expectation for the remainder of the year and next year? And then I have a follow-up.

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Gaston Bottazzini, S.A.C.I. Falabella - Corporate CEO [3]

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I'm sorry, Antonio, I was in mute. So thank you for your question, I had already answered the question. Sorry. No problem. So our expectation in financial business for the rest of the year is actually positive. We expect to maintain the reason or the growth trends that we have shown over the first semester. And this is mostly fueled by the opportunities generated by the integration of the bank and CMR in Chile and also by the opportunities we are seeing in the Colombian market, both of which are the main fuel during the first semester, and we expect will be -- will continue to be that way over the second.

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Antonio Hernández Vélez Leija, Barclays Bank PLC, Research Division - Research Analyst [4]

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Okay. Perfect. And well, I've seen also that the online channel has contributed a lot to this growth. How sustainable is that? And do you see any difference in terms of credit quality from this channel?

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Gaston Bottazzini, S.A.C.I. Falabella - Corporate CEO [5]

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Yes. The online -- as I mentioned in some of the opening remarks, the online channel is now a very relevant part of our origination of credit and is becoming a very relevant part also of our origination of credit cards. And we expect that, that will continue to gain relevance. There is a gap between the relevance of that channel, which is already over 50% in Chile and around 35% on average in the region. So we have some catch up to do in some of the countries. But also, as we incorporate new functionalities and make our applications more user-friendly, we expect particularly in customer acquisition, this trend to grow faster.

In terms of the quality of customers that are -- that come through the online channel or digital channels versus the physical channel, most of the customers are -- most of the -- I'd say almost 100% of the approvals are automated. So there is really no difference in criteria. And when we look at the customer profile itself, we are not seeing a significant difference in early defaults or risk levels between customers that are acquired through online channels versus physical channels.

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Operator [6]

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Our next question comes from Antonio Gonzalez with Crédit Suisse.

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Antonio Gonzalez Anaya, Crédit Suisse AG, Research Division - Senior Analyst of Latin American Equity Research [7]

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Just a follow-up first on the previous question on the online origination of credit. Can you just remind those -- are these new accounts mostly? Or is it just migration from existing clients to originate alone online? Because when I see the revenue from the banking operation, it's up 9.5% year-on-year, no, when you combined all of the countries. And as you said, Gaston, 35% of the sales at the group level are being originated online. So I just wanted to reconcile that 35% penetration with a 9% growth in top line, it perhaps tells me that most of the online migration is from existing clients at the moment. Well, I just wanted to confirm that. And then I have a different follow-up question perhaps after this one.

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Gaston Bottazzini, S.A.C.I. Falabella - Corporate CEO [8]

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Yes. Thank you for your question. Basically, the -- you're right, most of the online originations of credits is with existing customers. And the reason for that is the way we operate with our customers or the way we manage credit limits with our customers is in a very gradual way. So even though we are acquiring customers online, when you look at it from a number of customers' point of view, I think, I gave some numbers out, it's about 15% of our new customers are coming from these channels. But then we grow the customer and the customer, regardless of whether they open the account online or offline with -- there is an onboarding process, where we try to convert the customers that opened their accounts in our stores into online customers. So a large proportion of them, after they open the card, they are turning to online to either take credit or open other products. And that's why that number is mostly around existing customers when you look at exposure, but it's also about new customers. But it's account opening, and there is very limited exposure when the account gets opened.

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Antonio Gonzalez Anaya, Crédit Suisse AG, Research Division - Senior Analyst of Latin American Equity Research [9]

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That's very clear. And also following up on that topic, I think you mentioned on the prepared remarks, Gaston, that 90% of the products are available now from Banco Falabella into the online app. Is there any color you can give on new products, i.e. I don't know, peer-to-peer transfers, stuff like that in your, I guess, ambition to become a digital bank. I guess, it's a matter of time before you start exploring these other functionalities, no, or loans for the sellers that are on the Linio marketplace, et cetera. Can you just give us your big picture thoughts on how do you grow outside of your existing core product offering?

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Gaston Bottazzini, S.A.C.I. Falabella - Corporate CEO [10]

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Yes. Thank you for the question. Antonio, the way we look at it, our focus traditionally has been on basically making our customers' life easier by facilitating their buying experience in our stores. And the first step we made about 8 years ago was let's make this a product that actually is usable everywhere in the market, and that's how we went from a private label card to an open card.

From there, we moved to offer the other financial products, so the DBA account, insurance products, et cetera, even other types of credits like car loans and consumer credits. So we are moving in a -- in several directions. The first one is that we are and probably what is having more impact today is that we are offering all of these products in our online channel -- channels and make it a lot easier for our customers to apply, to transfer, to process. But basically what we're doing is we're making our products a lot more efficient by taking them online or taking them to our apps.

The second area of work basically has to do with payments. Today, we have a payment solution that operates across all of our formats and basically it's a wallet that makes the checkout very easy. The idea is that the same way we took the card out from our own environment eventually we take our payments solution out from our own environment. The challenge -- there are a set of challenges to be able to do that and to have something that is actually competitive in the market. So that's what we are working on in -- and is under development today.

And then the third area of work is what are the new opportunities within the credit world that we can tap into because we have now these new channels and we have now better information and better knowledge of our customers, and because now we have a new participant in our environment, which is the seller. And the response to that is we are generating new ways to take credit, so we are working on sales finance solutions, which means customers are taking credit, but for specific purchases, for specific large purchases in formats like Sodimac or buying cars in Autoplaza, et cetera.

And the other area is focusing on our sellers. And in terms of that area, we're still in the -- there is a lot of work around model development and understanding the behavior of sellers and we've only operated Linio for a year. So we expect that in the first few months, we'll start exploring that area with the history that is necessary to be able to do that well.

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Antonio Gonzalez Anaya, Crédit Suisse AG, Research Division - Senior Analyst of Latin American Equity Research [11]

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That's very clear. Lastly, if I may. If I'm not mistaken I think that you had some changes at the top management level of Linio. If that is the case, can you walk us through the changes that took place and the rationale? Are you still keeping part of the legacy team or, I mean, see the blend of the 2 organizations? Or have you mostly gone through the transition now? Any color that you can add on that?

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Gaston Bottazzini, S.A.C.I. Falabella - Corporate CEO [12]

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Yes. So basically the main change that took place in Linio is that the CEO of Linio that started working with Falabella when we made the acquisition after about a year of working with us and with a planned transition decided to move into other projects and interests. Andreas was replaced by Benoit de Grave. Benoit has been in the group about 6, 7 years. He has had the CEO position at the bank, the CEO position of our travel. And Banco Falabella and also was involved in insurance. And in all of these areas, he was very involved in the digital transformation of these businesses. So we think Benoit is a very good leader and also has the necessary background, even though that requires some additional knowledge of the transitions into Linio. But we are in the first couple of months seeing a very good transition.

Under the CEO position, there have been a couple of changes. Overall, we see a very stable team today. We see that, actually in terms of rotation, rotation is dramatically going down in Linio. And we think that has to do with the perspective of growth that now the company has.

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Operator [13]

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And our next question is from Julie Chariell with Bloomberg Intelligence.

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Julie Chariell, Bloomberg Intelligence - Senior Analyst [14]

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Wanted to ask generally about the expense model. The consumption, as you mentioned, in Chile has been really tough. No clear view to things turning around. Argentina looks like it may be taking a step down in terms of consumption as well. All things out of Falabella's control, out of your control. What might you be looking to on the expense side to begin to sort of shore up margins? Is there anything further that you can do while you're investing to sort of manage through this tough consumption environment?

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Gaston Bottazzini, S.A.C.I. Falabella - Corporate CEO [15]

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Thank you, Julie. So as you said, you mentioned Argentina, you mentioned that we have a consumption environment that is not at least -- doesn't give us reasons to be optimistic in the short term.

So the first thing we're doing is we are basically adjusting our purchasing plans to that environment. And we are already seeing a much healthier position in -- particularly in Sodimac in terms of inventories and we are working -- we are still not much in a healthier position in the case of department stores that we have, but we are working on that as well.

In terms of overall SG&A, we are working on efficiencies, and we have been working on efficiencies throughout the whole year. And we basically rolling out a set of initiatives around efficiency that we think are going to make our P&L healthier in that sense going forward without having to sacrifice our investments in logistics and technology, which we think are very important to produce growth going forward.

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Julie Chariell, Bloomberg Intelligence - Senior Analyst [16]

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Do you expect to be able to maintain operating margins where they are in the first half? Or might get things get a little tougher before they get better?

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Gaston Bottazzini, S.A.C.I. Falabella - Corporate CEO [17]

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I think -- overall, what I think is that things will not get tougher but will not get much better in terms of margins going forward.

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Julie Chariell, Bloomberg Intelligence - Senior Analyst [18]

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Okay. Can I get one more in on Linio and the e-commerce numbers?

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Gaston Bottazzini, S.A.C.I. Falabella - Corporate CEO [19]

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Yes, go ahead.

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Julie Chariell, Bloomberg Intelligence - Senior Analyst [20]

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So nice numbers on the e-commerce side, nice progress there and the cyber event helped. It seems that Linio, when we look at NMV, is underperforming a bit when it comes to growth compared to the sort of core business moving online. Are you seeing that? Is it sort of expected as you go through this transition? How do you kind of square where Linio stands versus the core online business?

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Gaston Bottazzini, S.A.C.I. Falabella - Corporate CEO [21]

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So in terms of Linio, the first thing to note is that there are 2 situations that need to be taken into account when you look at overall performance. The first one is that when we acquired Linio, it was in a process in which the traffic was overall decreasing, and it took us a while to turn that trend around. But we are happy with how that took place and particularly, observing that organic traffic is growing strongly in Linio as we speak.

The other context that you need to take into account is that Linio was very strong in Mexico in relative terms, and we have focused much more in enhancing the value proposition and the growth levels in Chile, Peru and Colombia, which we consider our core markets. And therefore, even though overall you may not see such great numbers, what you see is a reversal of trend and that reversal is -- of trend is driven by very strong numbers in these 3 markets, which we actually think are going to become stronger going forward as we increase our investments in marketing. This turnaround was more based on SKU development and integration of our credit card value proposition into Linio and with relatively restricted expenses on marketing, which are going to become more aggressive in the second semester.

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Operator [22]

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And our next question comes from Robert Ford with Bank of America.

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Robert Erick Ford Aguilar, BofA Merrill Lynch, Research Division - MD in Equity Research [23]

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Gaston, I was hoping you could touch a little bit on home improvement in Brazil. Seems to be showing considerable strength despite the difficult environment. Can you talk a little bit about what's behind that, and how you're thinking about Brazilian home improvement over the intermediate to longer term, please?

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Gaston Bottazzini, S.A.C.I. Falabella - Corporate CEO [24]

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Well, Robert, thank you for your questions. So home improvement in Brazil, the way we are -- as you know, we entered home improvement in Brazil through the acquisition of Dicico and started building our larger Sodimac stores to complement the network of stores Dicico already had. The Dicico stores are much smaller than a Sodimac store. And we have concentrated exclusively in São Paulo state in the development of this business. The main driver of improvement in Brazil is the conversion of Dicico stores from a very specialized store, mostly in construction and finishes into the broader home improvement store without the assortment that a typical Sodimac store might have, but with a much larger assortment than the Dicico store used to have, and that has produced a tremendous impact in terms of the growth of the stores.

In addition to that, we have seen a change in the consumer dynamic in Brazil, which has improved. Our performance broadly as a result of the prior conversion of stores that I mentioned has been better than the improvements in the consumer dynamic, but the consumer dynamic has also improved. And also, I think there has been a learning curve in terms of the management of the Sodimac stores both in terms of inventory management, adjustment of assortment to the tastes of the Brazilian consumer and these have also allowed us to improve the performance of the Sodimac stores, particularly the ones that were opened more recently.

And in terms of how we look at it -- I'm sorry, you asked about our forward-looking perspective on Brazil and our format. Our forward-looking perspective is to continue to roll out this development, because we have -- we haven't still converted all the stores we want to convert from Dicico. And then very selectively look at other opportunities for growth.

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Robert Erick Ford Aguilar, BofA Merrill Lynch, Research Division - MD in Equity Research [25]

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Got it. That's helpful. And Gaston, how are you thinking about credit in Brazil?

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Gaston Bottazzini, S.A.C.I. Falabella - Corporate CEO [26]

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The way we are -- in Brazil, because we only have a format, we are not ready to develop a credit value proposition. And in general, what we are doing in Brazil is leveraging alliances to develop the equivalent to our ecosystem. So as we look at credit, what we have done is we have built an alliance with Bradesco to offer a Sodimac-branded credit card, which was launched about 3 months ago, and we are still in the process of testing and rolling out in all of our stores.

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Operator [27]

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(Operator Instructions) And our next question is from Gabriela Benjamin with BlackRock.

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Gabriela Benjamin;BlackRock;Analyst, [28]

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I just -- I was wondering how the competitive environment is. I recently saw that Walmart is investing a significant amount of cash into the country and also into technology. My guess is that is for the online business. So I'd love to get your thoughts on that.

And then secondly, even in the countries where there was good sales and everything like Peru and Colombia, there is still EBITDA margin contraction, if you adjust for IFRS. So I was just wondering if you could just comment on that if that's just the online investments being divided among the different regions that's causing that margin pressure.

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Gaston Bottazzini, S.A.C.I. Falabella - Corporate CEO [29]

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So in terms of the competitive environments, of course, not only Walmart, but I think, all players are increasingly investing in technology, investing in solutions for customers and growing their online sales. So our focus is rather than look at what everybody is doing, which we already assume is going to be very aggressive, is to have a very focused plan, and be very thoughtful about what are the investments we need to make to really change the buying experiences of our customers both in our online channels, but also as they interact with our physical channels, how we make technology more present in those physical channels.

And we're doing things in the stores around product identification, around how you do the checkout, et cetera, where facilitating that process allows us to have a competitive advantage. And the diversity of formats, the complementation of the formats with both the online and the marketplace value proposition and how all of this is then -- strengthens further by our credit value proposition and by our loyalty value proposition. We think those are the tools that we are using to make sure we don't -- we not only remain attractive to customers, but increase their frequency of interaction with us over time. In terms of Peru and Colombia, I will let Alejandro talk about margin contraction because some of it has to do with implementation of IFRS.

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Alejandro González Dale, S.A.C.I. Falabella - Corporate CFO [30]

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Yes. Thank you, Gabriela, for your question. We were -- specifically given some Cyber Event in Colombia particularly promotional. And also we had in both countries also, Peru and Colombia, relatively strong comparison base because we have the World Cup last year. Yet, we're seeing increasing in the -- specifically in Colombia, we have seen increasing activity, which is also consistent with the growth that we have been able to see in our finance, in our bank, in our finance business. So we don't have -- we have relatively, I would say, optimistic view for second half over there. It's true that there are some levels to imports will be applied on the second half, this may have an impact in our margins. But that effect -- the impact of IFRS 16 is mainly related to the strong base that we had last year unless you have any further question related to that.

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Gabriela Benjamin;BlackRock;Analyst, [31]

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No, I think that clarifies. And then just a question about the online. How it's behaved after you had a big promotional event that definitely helped grow online for the quarter, but I was just wondering if you could comment a little bit what's happening into the third quarter if you're continuing to see the online strong growth?

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Gaston Bottazzini, S.A.C.I. Falabella - Corporate CEO [32]

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Yes, I would divide the answer to that question in 2. One has to do with the 1P or our own online retailers. And we are seeing that continuing to grow at a healthy rate and more or less in line with what we have seen in the first semester. On the other hand, in the 3P or our marketplace proposition, we expect to see an acceleration during the third and fourth quarters.

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Operator [33]

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(Operator Instructions) All right. And I would like to turn the call back to management for their final closing remarks.

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Andrea Gonzalez Bayon, S.A.C.I. Falabella - Head of IR [34]

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Thank you for participating in Falabella's Second Quarter 2019 Earnings Call. The Investor Relations team is available if you have any follow-up questions. So please feel free to contact us at your convenience. Have a nice day.

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Operator [35]

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And ladies and gentlemen, thank you for your participation in today's conference. This concludes the presentation, you may now disconnect. Have a good day.