Good morning, and thank you for waiting. Good morning, ladies and gentlemen. We would like to welcome everyone to Direcional's fourth quarter 2017 earnings conference call. Today we have with us Ricardo Ribeiro Valadares Gontijo, Vice President, and Carlos Wollenweber, CFO and IR Officer. We would like to inform you that this will be a listen-only mode during the company's presentation. After Direcional's remarks are completed, there will be a question-and-answer session. At that time, further instructions will be given. Should any participant need assistance during this call, please press star zero to reach the operator. We have simultaneous webcast that may be accessed through the company's website, www.direcional.com.br/ri. The slide presentation may be downloaded from this website. Please feel free to flip through the slides during the conference call. There will be a replay facility for this call on the website.
Before proceeding, let me mention that forward-looking statements are being made under the Safe Harbor of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are based on the beliefs and assumptions of Direcional's management and on information currently available to the company. They involve risks, uncertainties, and assumptions because they relate to future events and therefore depend on circumstances that may or may not occur in the future. Investors should understand that general economic conditions, industry conditions, and other operating factors could also affect the future results of Direcional and cause results to differ materially from those expressed in such forward-looking statements. I will turn the call over to Mr. Ricardo Ribeiro, Vice President. You may start.
Good morning, everyone. I would like to thank you again for attending this conference call to discuss the results of Direcional in 2017.
In our point of view, this has been a year that marked very clearly a major development in our operating results with a significant increase in operations in the segment that has allowed us to deliver more healthy margins, which are the MCMV levels 2 and 3. It has not yet been fully reflected in financial results, but it shows clearly a trend of what we expect for the next quarters when this operation increases even more, and this will be more clear in the income statement. Let's start with slide four, that shows the main highlights in operations of 2017. We've ended the year 2017 with a growth of 42% in launches when compared to 2016. More specifically, the MCMV levels 1, 2, and 3 contracted net sales of BRL 225 million. Sales have grown 150% year-on-year, and revenues grew by 121%.
Gross margin went from 31% in 2016 and reached 35% in 2017. In addition, it's also important to highlight that deferred revenue in this level, MCMV, has grown by 160% from one year to the next, which shows clearly that this trend of growth in revenue and in the share of this segment in the consolidated results of Direcional will continue to grow and become clearer quarter after quarter. Moving on to slide number five, let's talk about the launches. In the fourth Q 2017, this was the best quarter ever in the history of Direcional in terms of launches in real estate development. We grew more than 3x when compared to the fourth quarter of last year, and 40% in the terms of the year, the fourth Q of 2017.
In 2017, we launched 33% growth year-on-year, launches grew, and we closed the year of over BRL 1,925,000 in levels 2 and 3. Considering the share of Direcional in this area, launches amounted to BRL 451 million in the fourth quarter and BRL 980 million in 2017. There has been a concentration last year in launches in the last quarter, which accounted for 40% of the total volume launched. For 2018, we believe that launches will be more evenly distributed along the year, and the first quarter or first half of the year will be much stronger than what we delivered last year. On slide number six, let's talk about sales. The growth was even more significant than in launches. We had net sales of BRL 268 million in the fourth quarter, BRL 61 million in level 1, and BRL 71 million and BRL 200 million in levels 2 and 3.
We suffered from cancellation, which was higher than the sales volume. When compared to the fourth quarter in 2017 to the third, we had a growth in sales of 32%. When compared to the fourth Q 2016, at 35%, and when compared to the fourth Q 2016, 32%. In the consolidated figures, we had an 80% sales growth, reaching BRL 914 million. When we look at the segment of levels 2 and 3, this amounted to 150%. We closed the year 2017 with well-distributed sales, no concentration in any specific sales, and the main highlights were São Paulo, Rio, Amazonas, and Minas Gerais. In cancellations, on page seven of the presentation, sales cancellations were still strong last year, mainly due to the large amount of deliveries in middle-income segment, which reached BRL 78 million, higher than 2016.
Given this high amount of deliveries, the cancellations remained strong and ended up significantly damaging our net sales, especially middle-income segment. That's where cancellations are concentrated, mainly. In the fourth Q last year, we canceled BRL 91 million, and the percentage of cancellations related to Direcional were BRL 78 million. It's important to highlight that despite the fact that the level of canceled sales was significant, we were able to maintain a high amount of reselling of canceled units of 73%. They were sold in the same quarter. In 2018, we will still have a significant amount of deliveries in middle-income segment, and you will see more clearly with the presentation of Carlos. But the deliveries expected for this year are lower than last year, and we will have a higher concentration in the beginning of the year.
It's natural that we should expect a high level of cancellations in the first quarter, and this level of canceled sales will tend to improve towards the second quarter of the year. Although this damages a bit our financial data, the middle-income segment is significant for the company in terms of cash generation, since most of the construction has already finished, and these sales, although they have low gross margins, they allow the cash that was invested in construction works to return to the company and to be invested in a more profitable manner. On page eight, talking about sales over supply, VSO, I would like to highlight that despite the high level of launches last year, most of them concentrated in MCMV, we remain stable in 18%, which shows the effectiveness of our launches and the fact that our growth has been quite consistent.
Just for you to have an idea of what we have been doing to maintain the pace of launches and sales, in the end of 2016, we had 480 brokers, and last year, we closed the year with more than 500 real estate brokers focusing on these products we are launching. On page nine, we have closed the year 2017 with 1.6 billion units available for sales, and 33% of this amount are finished units. Most of them are concentrated in the middle-income segments. On the upper right-hand corner chart, we can see 38% of the total PSV available for sales was launched throughout 2016. It is a very recent inventory. We have ended the year with 55% of potential concentrated in MCMV and 45% in middle income. Just to complete, the inventory of Direcional is more concentrated in Minas Gerais state. Some time ago, it was in the town of Manaus.
Another important fact to be highlighted is that in Minas Gerais, we have gross margins that are higher than the gross margins we would be able to deliver in Manaus. The large amount of inventory in Manaus has been reduced. We had margin recognition lower than we would like which impacted the next quarter. But I would say that the prospect for middle-income margin for MCMV are better this year than they were in 2016, given the change of the region in which these properties are concentrated. On the next page, we see the land bank. The year of 2017 was a year with a significant growth in plots of land available for launches in MCMV segments.
BRL 4 billion were acquired in terms of sales potential throughout the year, and we ended the year with BRL 11 billion in potential sales that could be reached in lands managed by Direcional. In addition to this, that are for MCMV, we have another BRL 5 billion of land for middle-income segment, that given the economic circumstances of the country, did not allow us to make any launches last year. So the total land bank of the company amounted to almost BRL 17 billion at the end of the year. Plots of land were majorly acquired via swap, which is a model that Direcional does not disperse a lot of cash at the acquisition moment, and that is paid as the units are being paid by those who acquire the apartments.
I will now hand over to Carlos Wollenweber to talk about the main financial highlights, and then we will be available at the Q&A session at the end of the presentation.
Good morning, everyone. In the presentation of financial highlights, it is important to separate the three lines of business: MCMV 2 and 3, services, and middle-income segment. On slide 12, we show the development of the total gross revenue, which was reduced by 30% in the quarter and 45% in the year. We also had two non-recurring events that damaged our results. BRL 21 million of impairment in Manaus and BRL 10 million in increase in provisions for guarantee for MCMV level 1 segment. We delivered a gross revenue of BRL 121 million with a margin of 16%, although it was a small margin. Moving on to the next slide, let us look at the results for segments. MCMV levels 2 and 3 results.
In the quarter, revenue grew by 114%, and in the year, we had a revenue growth of 121%, BRL 376 million. Gross profit grew by 89% in the quarter and 151% in the year, with a margin of 35%, 4 percentage points higher than last year. It is important to highlight that this is the future of Direcional. Let us look in detail the middle-income segment on slide 14. Considering the high level of cancellations, combined with the still difficult market for the segment, net sales were reduced by 72% in the year, which caused our revenue to be reduced by 72% in the quarter and 59% in the year, amounting to BRL 200 million. To accelerate sales in Manaus, we increased discounts. Disconsidering this one-off event of discounts given, the gross result was negative.
It is important to highlight that this segment will continue to present low margins, but with a strong generation of operating cash. As we can see in the lower chart on the right, the large amount of developments was delivered until February of this year, which allows to transfer customers to those units that have been sold. Let us look at MCMV level 1 on slide 15. We had a reduction of 62%, BRL 222 million in the year. We faced a lot of paperwork when delivering this project to the city authorities, which resulted in high unbudgeted costs in addition to postponing finished units. In the fourth quarter, we decided it was important to reinforce the provision for works in BRL 10 million. This segment did not result in any profit in the year.
It is worth highlighting that level 1 had a very good result from 2009 to 2016, which encouraged us to have a large PSV for 2017. On slide 17, we see the share of each segment in consolidated results. MCMV levels 2 and 3 accounted for 83% of launches in 2017, and 72% of net sales, but only 47% of gross revenue. However, its share has been growing quickly in revenues. It was only 55% in 2015, 12% in 2016, and 47% in 2017. It has grown 160%, totaling BRL 472 million in Q4 2017, showing that revenue will grow at a high speed. Only this segment generated BRL 122 million, and for the year it is even higher. On the next slide, we see the SG&A expenses.
The G&A amounted to BRL 24 million in Q4 due to a decrease of 13% of gross revenue, a 4% growth when compared to Q4 last year, despite being nominally flat. Sales expenses totaled BRL 120 million, but accompanying this growth in gross sales. It is important to understand that the gross profit of BRL 41 million from levels 2 and 3, discounting the 6% of sales cost and 100% of G&A of Direcional, already accounts for an operating profit of BRL 24 million for the whole year, annualized. On slide 18, we see financial results, the transfers. It has grown 162% year-over-year and 73% growth in 2017, totaling BRL 240 million. In middle income, as a result of a reduction in net sales, it was reduced by 22% when compared to last year, and generation of cash was postponed.
The capital investment in the area of land between BRL 85 million and the postponed cash for transfer in middle income caused Direcional to have a cash burn of BRL 71 million, as you can see on slide 19. However, we maintained a very comfortable capital structure with a cash balance of BRL 484 million and a leverage of 25% on equity. Now, I would like to open for the Q&A session.
Thank you. We will now start the Q&A session only for analysts and investors. If you have a question, please press star one on your touch-tone phone. If at any point your question is answered, you may remove your question from the queue by pressing star two key. Questions will be taken in the order they are received. We do ask you that when you pose your question, you pick up your handset to provide optimum sound quality.
For attending journalists, please contact the press assessor, Ms. Daniela Naves, on the phone, 31-3431-5446 or by email, daniela.naves@direcional.com.br. Please hold while we pose for questions. First question is from Luis Stacchini from Credit Suisse.
Good morning. Thank you for your presentation. I have two questions. With regard to level 1 and MCMV, could you comment a bit more on margins? Because of the guarantee of the finished unit, the margin is still under pressure. I would like to understand if in this quarter there has been any execution of the contracted sales for this year, and what we could expect in terms of evolution of margins in this segment, because it seems that the new projects have much higher average unit prices. This would be quite interesting. As for the middle income segment, I would like to understand if you could give us some more color about the deliveries.
We see a drop in deliveries from now on. Could you explain what are recurring or yet to be incurred costs for this segment and all disbursement in construction for 2017 and 2018? Because that's an important driver in cash generation for this year. Thank you.
Okay, Luis. Now talking about level 1, as you may notice, we made a provision for maintenance given the difficulties we have been facing in delays, in terms of what was usual for level 1. This provision was made in Q4 of BRL 10 million a month. But in the quarter, we had a loss of BRL 14 million in this segment of level 1 because these were expenditures we had to make to deliver these items in this segment. So this was a non-recurring impact, but it was damaging for results when you look at the quarter results only at that segment.
Deliveries had considerably improved in the fourth Q. We have delivered more than almost 9,000 units from January to March this year, which is a significant result, and that decreases the cost of maintenance that will be needed. W e believe that BRL 10.5 million provision is enough to deliver all the units we have completed so far. So naturally, margins will become closer and closer to margins we delivered in projects that were in execution during 2015 and 2016, mainly. We're talking about gross margins that will vary between 17% and 19%. And that refers basically to two developments, one in Rio Grande do Sul that's already under construction with a strong progress, and one development whose construction is starting now in the capital of São Paulo state.
When we look at the level 1 separately at Direcional, this will become more evident since deliveries are at the final stage. Talking about the middle income segment, it is important to understand some aspects about it. When we look up to the February base, we have basically four middle income projects to be delivered. The construction cost of these developments amount to BRL 6 million. There are two reasons. First, since we still have a large amount of units in stock, if we look about BRL 800 million in stock, the percentage of Direcional is BRL 650 million. It no longer uses working capital to finish the construction of these units.
Another important essential fact is that since we have the permit for these units, not only the sales of these units accounts for immediate cash generation of revenues that will be reported in selling these units, but it also releases the accounts receivable from these units. We are talking about a net portfolio of BRL 500 million, which is released to transfer those customers, and we pay financing of construction and we can have generation of cash back to Direcional. Although this segment will continue to present a low margin, as Ricardo mentioned very well, the more complex cases of inventory was mostly reduced at the end of last year because the most part of our inventory is concentrated in Minas Gerais and Belo Horizonte, where margins are lower. But the cash generation that will come from this segment is quite significant.
Just to give you some macro figures, we have in terms of accounts receivable, over BRL 500 million, inventory BRL 650 million, for a debt of financing of construction of BRL 480 million, and cost to be incurred of about BRL 100 million. We have a considerable cash generation that will take place quite quicker for the customers who bought units we delivered. We delivered many units at the second half of last year and mainly in the first quarter of this year. The sales of these inventory units that we believe that in the next two and a half years will be almost reduced completely because we will sell the remaining units.
In your understanding, the driver for cash generation is more in terms of monetization of receivables of finished units rather than reduction in the cost of new projects. Is my interpretation correct?
In the first quarter-
Yes.
Or in the first half of the year?
Yes.
Because given the deliveries we have made, there is still a high amount of cancellations that will happen from customers that could not have their credit facilities approved. But when you look into the second half of this year, net sales from middle income segments, since cancellations probably will be significantly reduced, net sales will increase and we will start generating more cash from units in stock. But from the first half of the year, most cash will come from the transfer of customers of constructions that have finished and were delivered recently.
Yes. Thank you very much for the answers.
The next question comes from Victor Tapia from Bradesco BBI.
Good morning. First thing I would like to ask is about cash burn.
The part of cash burn that you attributed to the increase in commercial sales, mainly due to the fact that you had to invest in opening your own stores. If you could quantify the disbursement and how many stores are you operating in, and what is the goal in terms of number of stores? To know whether this will have a further impact in the future in terms of this type of disbursement. Also about levels 2 and 3 on MCMV, you have accelerated the level or the pace of launches recently, and I would like to understand what is the pace of launches now for the first quarter 2018, and mainly in terms of sales. Thank you.
This is Carlos talking, Victor. Cash burn did not come from opening stores.
You were right, because when we look at Minas Gerais, specifically, the number of brokers and the sales force has increased there. In the first quarter this year, we almost doubled our sales force in Minas Gerais, and we expect to triple the number of brokers we had last year in the first half of this year. We are reinforcing a number of brokers in the areas we have higher inventory levels to accelerate sales and therefore increase cash entry. We have some investment in opening stores and all that, but it's a marginal cash burn. The main reason for cash burn in the fourth quarter is the negative net sales that we had in the middle income segment. We had a volume of canceled sales almost equal to the sales volume.
We didn't have the expected cash coming in from the fourth quarter from sold units. Consolidated, we're talking about a postpone or deferred cash generation of BRL 76 million. That would kind of even out, just from sales that we didn't realize from this segment, or they were decreased by canceled sales. This impact was higher in the fourth quarter. In addition, Direcional, both in 2016 and 2017, in order to accelerate launches of product levels 2 and 3, we have purchased a large volume of plots of land. Last year, BRL 4 billion invested in land bank. Although the cash disbursement is low, which is 20% consolidated for the year, it accounts for a cash investment in the year that's quite high, amounting to BRL 85 million in the year in consolidated terms. These were the two main reasons for the cash burn. One, investment to grow.
What's important is, like Ricardo mentioned in his presentation, that today the total land bank amounts to BRL 11 billion only for the MCMV levels 2 and 3 segment, which guarantees that we'll continue with a stronger pace of launches in the segment without having to grow our land bank further, but just replacing it as we launch. T hese were the two main reasons for the cash burn. Now, talking about the operations in levels 2 and 3, the fourth quarter was quite strong in terms of launches. [audio distortion] , launches were mainly concentrated in the last three months, and we expected now for 2018 launches to be more evenly distributed throughout the year. The first quarter was much higher than the first quarter of last year, and sales in this segment are quite healthy so far.
As we delivered last year, we expect a growth in sales for 2018. We are quite optimistic about demand, and we haven't experienced any bottlenecks in terms of approval of credit facility and transfers. No problems or any new facts so far. We are optimistic about the prospect of this segment.
Can I just make a follow-up on the first part of my question? Maybe I didn't express myself so well. Cash burn was not 100% due to higher sales expenses. But if you could quantify the cash impact on disbursements due to the opening of stores, and how many stores you have now, and how many stores do you want to have? I mean, what's your goal?
It's important to highlight the following. This is Ricardo.
In Minha Casa, Minha Vida, MCMV 2 and 3, last year and this year, 2018, we expect to have generation of cash as a result of this strong growth in the volume of launches, and also given that sales expenses in terms of commission and marketing expenses happened in the beginning of the cycle before the construction develops and start receiving the transfers from customers that already have financing, we can expect cash to increase throughout the year. Currently, if we look at the last three months, in level 3 cash generation, it's mainly net. What we generate from cash of construction works that are in progress, that have been sold and we had customers transferred, are providing cash for projects that we are launching.
When we look at 2018, most of our cash generation from operation will come from transfers and sales of units in the middle income, as the 2 and 3 levels will become stable. In terms of the number of stores, I don't have the exact number, but it's around 130 points of sale. Oh, 15 - 30, I'm sorry. And we expect to open another 10 and 15. So we'll end the year from around 40 points of sale. And we don't see any need for more stores than that because we plan to concentrate our operations in the cities where we have higher volumes and leave the cities where we used to have development, but we decreased our sales because we don't have so many customers to keep the pace of launches. I'd say we want to close the year around 40 - 45 points of sale.
Thank you.
Next question comes from Marcelo from JP Morgan.
Good morning. Two questions. In the levels 2 and 3 segment, could you comment on what is the size you expect to have in that segment? Do you believe it's a robust segment? Do you expect to grow in the coming years? What is the expected launch volume? And what is the expected margin? Today, it's about 25%, as said in. I would like to know if there's an upside in this margin, because some other companies that operate in this segment, they report a bit higher margin. I would like to know how much we could expect.
Hello. Well, to talk about the size of this segment, it's a bit complex nowadays. I think it's most importantly for us is to deliver profitability and not so much volume.
I would say that the level of launches we have reached in the fourth quarter is a volume that we consider healthy, that will allow us to be one of the most efficient companies in this industry. If we consider a company that operates 100% in MCMV operations, we believe that growing much further above the fourth quarter volume can lead us to a situation in which our results will not be so positive and we could not deliver the profitability we have attained so far. It is very important to make it clear that in Direcional, there is still a contamination or a large mix of middle income with level 1. If you look in detail, that makes it difficult to analyze what Direcional plans to deliver from now on, which is more concentrated in the levels 2 and 3 of MCMV.
We do not want to grow indefinitely or to become too big. Our goal is not revenue, but return. We want to go after the volumes of the fourth quarter. We believe that the volume of the fourth quarter is optimum because we have economy of scale, and we do not plan to grow much further in that segment. In terms of margin, we are delivering a gross margin close to 35%. I would say that this margin is very healthy given the scenario of depression that we had in the civil works construction in Brazil. We have been able to reach economies and gains of efficiency in our works. If we look at years such as 2019 or 2020, like regular years, maybe the margin will not reach 35%.
It will be a bit lower because we cannot consider that these construction segment will operate at the same levels at so low prices. Maybe it would be different. It is a bit early to say, but of course, we will plan to deliver the highest possible margin to consume less capital. I would say that the 33% of gross margin, this segment would be quite attractive, and we would continue to operate in this segment without any restriction.
Thank you. Thank you for the answers.
I would like to remind you that if you want to ask a question, please press star one. Please hold while we pull for questions. Thank you. The Q&A session has now ended. I would like to turn the floor back to Mr. Ricardo Ribeiro for his closing remarks.
Well, I believe that the main message we would like to give you for this call is that we had one-off impact in the fourth quarters. These are non-recurring, and we do not expect such impact for our operations in the next quarters or years. I believe that our search to grow the operations in the segments in which we deliver consistent and solid results is very clear. Despite this growth level of 100% a year without loss of efficiency and loss of margin, this is a very important point of attention. Carlos has broken down the results segment by segment for you to have an idea of what to expect from our company when the operations are 100% focused on the segment which we are making the launches.
Despite this one-off impact, looking towards the future, we remain very optimistic because we know very clearly that all these changes made in the operations of the company will be reflected in our financial results. We have no concern regarding the availability of land and in terms of demands. We are quite focused on our strategy. We have been successful in this task, and now it is just a matter of having the largest possible volume of construction in progress for that to reflect in our results when we have a larger percentage of revenue coming from the segment where we deliver the highest margin, which is the segment that currently accounts for 80% or a bit more of deferred revenue. That shows clearly what is the trend of revenues in the balance sheet when this revenue starts to come.
Although knowing that the results of the fourth quarter was, in a way, quite damaged due to non-recurring events, this should not be taken as a reference in terms of future results, because we are working hard, and we are quite optimistic about the segments in which we chose to focus on for company operations, considering the current situation of the country. I would like to thank you very much for your participation, and our IR team is available for any questions you may have. Thank you very much and have a good day.
Thank you. This concludes today's Direcional's fourth quarter 2017 earnings conference call. You may disconnect your lines at this time, and have a good day.