BEDROCK Podcast E18 - Chat about Brazil & Investing

TC

Hello everyone, welcome to the BEDROCK Podcast.

Tracy

Hello, everyone, this is the 18th episode of the BEDROCK Podcast. In this episode, we're going to talk about Brazil. Recently, we spent two weeks visiting Brazil, including learning about the local culture and customs, meeting local friends, and also visiting some companies. It was a very fruitful trip. So today, we'll share some of our on-the-ground feelings and discussions with you. Participating in the discussion are me(Tracy), TC, and Oliver. Let's start by talking about our overall impressions from the research trip.

TC

Yes, we went for two weeks recently. Although we focused mainly on Brazil, we also talked with many local friends about the situation in the entire Latin America region. Of course, everyone knows that the most core country in Latin America is Brazil, so our topic today will mainly revolve around Brazil, with some discussion about the broader Latin American situation. This time, we visited several cities, the most important ones being São Paulo and Rio de Janeiro, plus two other smaller towns in the west and south. We had quite a lot of impressions from this visit because previously, our understanding of this continent and the many companies and opportunities there came more from reports, listed company filings, sell-side analysis, and exchanges with other people operating locally. We hadn't conducted such in-depth visits ourselves, nor had such high-density interactions with locals. Spending two weeks this time, quite intensively engaging with investors on one hand, and local practitioners on the other – some doing retail, e-commerce, operations locally, including some local listed companies – we had quite extensive exchanges and indeed had many insights. I feel that many things are quite different from imagination until you actually go there. So spending these two weeks was very worthwhile. Tracy, maybe you can start by sharing some of your impressions.

Tracy

I want to talk about two preconceptions. Before going to Brazil, the impression you easily form from various channels is that security is a big problem in Brazil. First, there are large favelas (slums). Second, you often see various bloggers on Xiaohongshu sharing their experiences of being robbed. So the overall impression is that Brazil is very dangerous. Another impression, not just for Brazil but for the whole of Latin America, is that they are "too close to God," with great resources and great weather, so the people are in a kind of "laid-back" state. After going there, I felt both of these impressions needed more or less correction. The first is the security issue. First, we had some personal experiences in these cities; second, we asked all the friends we met about their views on local security. The feedback we got was, from a visitor's perspective, when you go to São Paulo or Rio, people will tell you about some safe areas, suggest you stay there, other places are okay during the day, but try to avoid going at night. So there are indeed some security risks, but what's different from the original impression is that the danger is more about having your phone snatched or your bag stolen – that's the majority of the risk points – but actual life-threatening security issues are actually very rare.

Tracy

The issue of having things stolen is indeed very common. For example, if you're walking on the street and have local friends with you, they will remind you not to play with your phone on the street. Some local friends shared some anecdotes with us, like some people prepare two phones: one phone kept specifically in the office, with all the apps, bank accounts, etc.; the other phone is carried on the street, called a "Rob phone," which only has one bank account, maybe with just 50 Reais in it. This phone is specifically for being robbed. Others also shared with us why robberies are so rampant now, especially phone snatching? Because the proceeds from stealing a phone are actually getting higher. Before, the biggest gain from stealing a phone was the money from selling the phone itself; but now a very sophisticated industry chain has formed. They not only steal your phone but can also crack your various passwords, including bank accounts.

Tracy

So superficially, they steal a phone, but behind that, they can rob your bank account. This completely changes the incentive: the proceeds from robbery are very high, while the risk of robbery is very small. That's the security issue. But everyone's choice is quite different: some people have a "rob phone," but others don't care. Some told us that all their friends around them have been robbed, but they themselves have never encountered it. So the overall impression is that there are indeed some security concerns, but it's not as exaggerated as portrayed online and in the media. Actually, similar security issues existed in China ten or twenty years ago.

Tracy

For example, when I first started working in Guangzhou, before motorcycles were banned there. In my first week at the company, located downtown, I heard within days that our research director had just gotten a new computer, and it was snatched by someone on a motorcycle right after she stepped downstairs. That was before the motorcycle ban in Guangzhou; it was also quite chaotic then. That situation feels quite similar to the current situation in Brazil, just that it's more common in Brazil, whereas in China at that time it might have been relatively localized. That's about security. Another issue is the "laid-back" perception, which actually isn't as severe as originally thought. I think the country is huge, the entire Latin American region is huge, Brazil itself is huge, and people, regions, and habits vary greatly.

Tracy

For example, in Rio, people might be relatively more "laid-back" because the weather is great, resources are good, but this "laid-back" attitude is far from what the media portrays. Also, in São Paulo, people are very hardworking; I feel the level of hard work and "intense competition" is not inferior to China. I think the incentive structure for locals is completely different. For instance, friends told us that as long as the pay is sufficient, people can work very hard; as long as I work overtime, I am "competitive," and my rewards are good, people are willing to strive. This situation is also quite different from expectations.

TC

Right, as Tracy mentioned, that friend has a "rob phone," but actually, if you ask him, he's never been robbed. So among locals, on one hand, they are vigilant, but on the other hand, I think this worry varies from person to person. Including when people go to Europe, Italy, even Paris, France, there are many stories about easily encountering pickpockets, but actually, it's a matter of probability; we don't think you encounter it everywhere, all the time.

TC

Also, in recent years, you can see the Brazilian government has been paying more attention to this. For example, when we went to areas rumored to be most problematic, like the Cathedral in São Paulo, downtown Rio, below the Christ the Redeemer statue, etc., you find a significant police presence there – a police car every few steps, several officers standing there. Although people also criticize Brazilian police as not very reliable, I think this deterrent force is quite tangible.

Tracy

Just to add a bit on this. At the Cathedral in São Paulo, right in front of the main entrance, there was a police car parked. This is something you don't often see in many other places, specifically to create a deterrent.

TC

Yes, so you can see, for example, in areas where homeless people gather, they might not care about the police presence, and ordinary people don't go there; in main areas, because there is police distribution, it feels relatively safer for both tourists and locals walking there, as it's unlikely for very blatant incidents to occur. So, on one hand, you can understand that it's coming from a relatively chaotic era, but at the same time, you find the situation is improving, and the extent is quite noticeable. At least from our experience moving around there, there is a certain sense of security. I think if you insist on going to areas without police and that are very dangerous, and then something happens, I wouldn't say it's asking for trouble, but it's hard to avoid in such cases. But to a large extent, I think the situation has improved significantly.

TC

Also, this region indeed has favelas, slum areas that are naturally more chaotic, and there are areas with local autonomy intersecting with police jurisdiction, which can be very disorderly. But it also has relatively wealthy areas where police and security are quite good. So sometimes when we say Latin America is a bit "magical realism," I think that component is indeed there, which is quite similar to the pattern formed by its past politics, democracy, and relatively large wealth gap.

TC

Another impression I found quite obvious: I noticed that with the rapid development of internet penetration in recent years, many perceptions are actually becoming very similar to those in China. For example, in big cities, all delivery, e-commerce, etc., are very fast, basically arriving in one day. Walking on the streets, although it's not like in China where everyone uses electric bikes for delivery and there are many delivery riders, locally they all use motorcycles for delivery. So when you walk on the street, it's swarming with all kinds of motorcycles, each with a large delivery box on the back. So locals also told us that now this feeling, especially for people who went from China to work in Brazil, is that this lifestyle experience is even similar to China: e-commerce arrives in one day, food delivery arrives quickly, plus service fees are still very cheap compared to the US. This service experience is quite satisfying. I find this quite interesting too.

Tracy

We've just talked about some aspects that were relatively better than expected, but there are also some areas that were worse than expected, or require more attention from an investment perspective. One is the tax issue, which poses many obstacles to economic development; another is the political risk brought by next year's general election and its impact on the economy. Let's first talk about the tax issue. Brazil has a very heavy tax burden by global standards, probably one of the heaviest. For example, there are various taxes between states, and very high import tariffs. If you just look at value-added tax, which includes several sub-taxes, the average VAT burden is over 20%. It's particularly high in certain industries, like automobiles, where VAT can reach over 50%. Coupled with the security issues we discussed earlier, for instance, locals feedback that even wealthy people tend not to buy very nice cars. If I want to buy a very good car, I might need to get bulletproof glass; even if I can install bulletproof glass, I still tend not to buy a good car, because buying a good car obviously shows I have money, which attracts a lot of trouble. So security issues and the particularly high taxes actually suppress certain local consumption to some extent, hindering consumption upgrading to a degree. The issue of high taxes, combined with the current high interest rates and high inflation, also poses some obstacles to the local real economy. For example, the pressure on the retail industry is actually very significant. The valuation of listed retail companies used to be around 20x PE, now compressed to 10x. An important reason is this high interest rate environment, which suppresses people's actual purchasing power, causing the retail industry to operate with great difficulty because its inventory risk is amplified, and turnover and various efficiencies are affected. So the retail industry is having a very hard time. This is one area I feel is worse than expected.

Tracy

Then the second is the political risk issue just mentioned. They have a general election next year. From our conversations with many people, the general feeling is that the probability of leaning left or right is about fifty-fifty, but the impact on the economy from leaning left or right is in completely opposite directions. For example, if Lula is re-elected, he will continue his previous policies, which involve stimulus, high taxes, more support for the poor, somewhat like "robbing the rich to help the poor." This is relatively unfavorable for market economic development, could also exacerbate fiscal deficit issues, and these problems would have medium to long-term impacts. If the other faction wins, they might be more supportive of marketization, changing towards a different direction, which could bring about an economic take-off. So the election issue, how it turns out, will actually have a relatively profound impact on the economy, especially some changes within it, affecting the medium to long term. This risk might be something we didn't pay much attention to before going and before talking with local friends.

TC

Hmm, Brazil's tax issue I think is also quite interesting. That's why people think if there are some changes in next year's election, there might be some correction? Because the overall fiscal pressure is relatively high now, and the fiscal direction is to support the lower-income population, which leads to greater pressure on consumption and enterprises. With such high consumption taxes, it's actually hard to boost consumption of many things, including the relatively high corporate tax burden; these are all drags. But I think this is a normal phenomenon in social development, swinging between left and right, because existing problems do exist, and the wealth gap is large. Without efforts to reduce the wealth gap, it's hard to sustain long-term. So in this tug-of-war, next year might indeed be a relatively key point to watch.

Tracy

Indeed, the same policies can be viewed very differently by different groups. For example, the Lula government might be quite popular among the poor, but the elite or businesses might be relatively more opposed. During Lula's government, they collect high taxes, then run fiscal deficits, use fiscal stimulus to give money to the poor and build a lot of infrastructure, like spending a lot of money building shelters for the homeless. Some companies actually benefit from this; for example, one construction company grew very well precisely because the Lula government was building such shelters everywhere. At the same time, this government also gives money to the poor.

Tracy

What some people find relatively outrageous is that they even give money to alcoholics, who then drink, don't work, get drunk, and the government still gives them money. In some people's view, this is a ridiculous thing, but for other groups, they welcome it very much. So this contradiction indeed exists and is difficult to balance. This year, because of the fiscal stimulus, the economy hasn't shown many negative effects; for example, the depreciation of the Brazilian Real against the US Dollar has slowed this year, and due to fiscal stimulus, economic growth is also good. But next year, with the fiscal deficit already at a certain level, if they continue like this, it's hard to say if the economy can still maintain this year's trend.

Tracy

Some more radical analogies say that if Lula is re-elected next year, Brazil's development might trend towards the previous paths of Argentina and Venezuela; but if someone else is elected, moving in a different direction, then Brazil's economy might experience a take-off. So we've talked about some prejudices about Brazil, and aspects of Brazil that were not as good as expected or require caution. Looking back, should we introduce some general information about Brazil? Including its market size, population, and economic status?

TC

I believe everyone has some understanding of Brazil's overall macro situation. In summary, it's a region with 200 million people, and a per capita GDP already similar to China's, over $10,000. Just Brazil alone is sizable, Latin America as a whole is larger. Plus, Portuguese and Spanish are quite close; locals can basically understand each other, you can treat it almost as a dialect. I even asked GPT about this: if you compare the difference between Cantonese and Mandarin, the difference between Portuguese and Spanish is far smaller.

TC

So you can consider the locals, or Latin America as a whole large economy, has considerable commonality. So we can also see that companies developed based in Brazil still have good expansibility and extensibility. Whether it's previous consumer companies, easily expanding throughout Latin America, or current internet financial service companies, they have strong cross-regional economies of scale. Also, for example, as Tracy mentioned, Brazil's taxes are high, tariffs are high, but at the same time, Latin American economic integration has actually made many efforts towards preferential treatment, breaking barriers, and unifying the market. So there are actually many very "grey" schemes, not that formal., like they use "grey customs clearance" to import through neighboring countries, then into Brazil, or use other methods to enter. So you can also see, although it has many restrictions,

TC

On one hand, there are operational ways to bypass them, on the other hand, you can also see that due to the commonality in language, culture, and religion across the region, opportunities arise for everyone to grow this market together. But this is very difficult for outsiders because they need to understand local laws, practical tricks, even including this point which was mentioned by many people: the current level of corruption in the Brazilian government is still relatively high. For example, in São Paulo city, the proportion of mayors, governors being arrested after leaving office this past week is also quite high.

TC

So how to do business locally in a relatively compliant manner while also bypassing many restrictions can be a barrier, or you could say a trick. If familiar companies can establish themselves and build some advantages, it would still require considerable time and effort for foreign companies to figure out the ropes.

Tracy

Hmm, speaking of Brazilian government corruption, I want to insert a small topic. Locals shared with us that the Brazilian government practices "high salaries nurturing corruption" – paying high salaries while still being corrupt. He gave us an example: Brazil's per capita GDP is similar to China's, but can you imagine the monthly salary of an ordinary customs civil servant? It's about 25,000 to 30,000 RMB, and that's not even counting his corrupt income. So their corruption situation is relatively serious, while civil servants' income situation is very good. That's a small aside. TC, you just mentioned Brazil's large population, its ability to radiate to the Latin American market, relatively small barriers between countries, and its decent per capita GDP. Coincidentally, last episode we talked about Central Asia, and mentioned that Central Asia seems like a region, but expansion between countries isn't that easy. So does the Latin American market seem more attractive? Large population, decent per capita GDP, and relatively small barriers between countries.

TC

Hmm, compared to Central Asia, I think undoubtedly Latin America's ceiling is probably higher, that's unquestionable. Because the entire Latin American economy is large, and if you include Mexico, the population is very large. Think about it, Brazil alone has over 200 million people, Mexico 100 million, then add Argentina and others nearby, totaling 400-500 million people, and these incomes are not low. Mexico's per capita GDP is also over $10,000, Brazil $10,000, and there are a few other countries nearby, even Paraguay, I think some even reach $20,000-$30,000 levels.

Tracy

The "Switzerland" of Latin America.

TC

Right. So overall, of course there are many poor countries within it, but my point is, first, its total volume is large; second, the proportion of middle class is acceptable. You certainly can't compare with the US or China, but as a unified large market with common language and culture, it's viable. Also, if you establish yourself in a base market, like Brazil, Mexico, since your base market already has 200 million people with decent income, it means your company's basic revenue scale and size can be quite substantial from the start.

TC

Then, with this good foundation, you can attack other markets; your base market can provide strong support. But this is harder to achieve in Central Asia, I think, because each country in Central Asia is relatively smaller, like Kazakhstan only has 20 million people, Uzbekistan 40 million, but per capita GDP is low, so the base market cannot provide as much support. This is also why we can see why Latin America has been able to produce giant companies near the $100 billion scale in recent years, like Mercado Libre and Nubank. The core reason is that their base market provided strong support, after which they can continuously radiate outwards, avoiding a situation where everyone is scattered. Central Asia, I can only say it has some foundation, like language has some commonality, but the overall integration strength and potential, I think, cannot compare with Latin America.

TC

Another point I think cannot be ignored: although Latin America certainly doesn't include the US, the US has about 80 million Spanish-speaking immigrants, or people of that language group, who also have quite deep economic ties and exchanges with Latin America. Including when we travel in Latin America, you very noticeably feel the tendency for many people from the US and other Latin American countries to come for tourism. Even many people, especially those with Latino family or traditions,

TC

They are very accustomed to vacationing in Latin America, whether Brazil, Argentina, or Mexico. So many of their tourist destinations are based on serving them; this is a very clear case. But this situation is completely unseen in Central Asia, because historically Central Asia only has strong ties with Russia, but Russia is not doing well now. And the natural relationship between these countries and the US, I think, is stronger.

TC

So if companies here really perform excellently, they might even have some opportunity to target these US-based Latino populations. Including we recently saw Nubank gradually starting to plan entering the US market, which I think is also an important proof. In summary, I think the opportunity of the Spanish/Portuguese-speaking system, its overall integration strength, and also because they are, after all, a relatively special region, not so favored by large foreign companies, with many prejudices, so competition is not that fierce, far less fierce than in the US, let alone compared to China. Of course, the level of competition has definitely intensified recently compared to before. What I want to say is, they are still in a relatively independent market, and competition, as well as everyone's profitability, is still quite good. Once gradually built up, there is still great potential, whether in radiating to other regions or in more fields.

Tracy

Hmm, yes. Regarding the relative independence and language issues you just discussed, I thought of two small points. One is language. One feeling from going to Brazil is that locals speak Portuguese, but very few speak English, even people in hotels or clearly in the tourism industry, very few speak English. So from this point, it's very different from Central Asia, where the number of English speakers feels much higher. That's one point. Another point is its geographical location; it's relatively far from other places. For example, Brazil is far from China. Previously researching e-commerce, once a good reaches a Chinese port, shipping it to Brazil, its landed cost might double compared to its original cost in China. Second, it's actually not that close to the US either; flying from Los Angeles to São Paulo takes 11-12 hours, which isn't close either. So it is indeed a relatively independent entity; language is relatively independent, location is relatively independent. This makes it seem that when doing many things, it is indeed relatively undisturbed by external forces, or external players face more obstacles when trying to enter and compete.

TC

Yes, it's a strange existence: its distance from the US, yet with such a large population, very young, demand is strong, theoretically it should be a market with fierce competition and fragmentation. But the reality seems to be that many people find it difficult to integrate into this field for competition. And the integration strength of this field, although for example we look at the Eurozone, the EU seems like an economically well-integrated region, but from an enterprise perspective, it's quite fragmented, different languages in each country, we basically haven't seen any internet platform that integrates the European region very well appear. But Latin America is instead a relatively strange region; its integration strength is far less than the EU and Eurozone, but because everyone are immigrants, and the language is relatively common, culture and religion are similar, Therefore, it is possible that some local companies will emerge that can understand the local situation and then become big companies. So this point I find quite interesting and worth pointing out.

Tracy

Hmm, and another impression is that Brazil has many capable people. For example, some companies we talked about, including previously invested and researched companies, their founders, senior management, the number of people who received top global education is relatively high, and they have worked overseas, like in top overseas institutions, people with such backgrounds are quite numerous, and they are quite willing to return to Brazil to start businesses. For example, whether it's Nubank or Mercado Libre, their founders roughly have this kind of background.

TC

Hmm, yes. But many people's evaluation of education in Latin America, especially Brazil, is not high. So it's possible that a situation arises: the elite can accomplish some things because these elites are often those educated overseas, bringing back good experience and talent. But if the broader local education foundation is weak, then whether it's manufacturing or fields requiring large-scale talent support, it might be difficult to compete intensely like China. The reason many places in China can be so competitive is precisely because local education is quite good, like a perpetual motion machine continuously generating endless talent, and local companies can also emerge to compete with them. This point I think is why some of the better local companies, once established, can hold their ground? One impression of mine, not sure if it's a bias, is that being able to master advanced capabilities and talent is still a scarce resource locally.

Tracy

Hmm, also another point, in Brazil, when you exist as a small company, your resources are very limited; but once you grow large, then various resources, and government support, will come to you. Once you cross a certain size threshold, you generate a stronger positive push. This differs between Brazil and Mexico, and other Latin American countries.

Tracy

Also, we see the financial industry is very different. For example, comparing the Brazilian and Mexican markets, the Brazilian central bank's philosophy is very advanced, and they are very supportive of Fintech development. This attitude is very different from Mexico's. Because Mexico encountered Fintech companies causing a financial crisis earlier, ultimately requiring a government bailout, which makes the current Mexican government very cautious and conservative about financial technology innovation. This forms a sharp contrast between Brazil and Mexico. Because of this different attitude, the speed and space of financial development in Brazil, especially financial technology, are significantly different.

TC

Yes, actually unlike China, where the Chinese government hopes small enterprises can bloom diversely, it is more wary of large companies monopolizing resources, or even challenging its power. But for Brazil it might be different, because large companies have stronger resources for upstream lobbying or whatever, while small companies face relatively high costs in this aspect. So we see that after you break through a certain bottleneck, your business may be much better than before. I think this is indeed different in different countries.

Tracy

So we've discussed the general situation of the Brazilian market, including its population status, per capita economic level, its uniqueness, its potential to radiate to the entire Latin America forming a unified market, and its language and geographical location giving local companies some relative advantages for development, and their own characteristics, making it likely that from an investment perspective there might be more opportunities. So next, can we discuss what specific opportunities are good?

TC

Then let me start. First, these countries, actually similar to the Central Asian situation, have relatively high inflation and interest rates. Simply put, financial resources are a scarce resource. The root cause is that the cost of establishing trust is relatively high. So companies that can identify differences and reduce trust costs can benefit the most.

TC

It's exactly the same as when China first started reform and opening up, economic development was fast, financial companies including informal credit had high interest rates, and could make a lot of money. Including why large companies benefit relatively, small companies face many obstacles, is also related to this. Actually, because the trust cost for small companies is high, and there are few companies that can fulfill this demand, bridge this gap. So if a financial company can control its bad debt rate well, regardless of the method, whether through its ecosystem, algorithms, collateral, or whatever, the company that can bridge this gap can make a lot of money, because the overall interest rate spread in society is relatively high, or the overall society's ability to identify differences and universalize financial resources to everyone is relatively weak, leading to high interest rates.

TC

But some companies, as long as they can achieve it, can earn a spread completely different from developed markets here, and if they can control the bad debt rate, it's quite lucrative here, the ROE is very, very high. This we saw in Central Asia, and similarly in Brazil. So I think companies that can make a lot of money and grow their business big in these countries essentially need to bridge these societal gaps that are far from being satisfied,

TC

Whether it's information asymmetry or areas with significant losses. Another area, like retail, is actually the same. Because this country's manufacturing isn't great, quite a lot of goods need to be imported from abroad. So the price difference between the cost of importing raw materials or goods from abroad and selling them locally is very large. The main reason is that it essentially also needs to bridge the information gap, logistics losses; the efficiency loss is quite significant. So if there are companies here that can minimize this efficiency loss, whether in information, logistics, or goods, and deliver better, then the profit they can capture is large. So we see companies that perform well, whether they can quickly capture traditional retail market share, and simultaneously they can charge a few higher take rates, from this perspective, are very full proof.

TC

So overall, I think companies that can develop rapidly and make money here must, to some extent, greatly improve the efficiency losses inherent in the original system, or meet unmet demand. So for this reason, when we are locally, we also tend to look more at companies that use some new models, like e-commerce or fintech, to satisfy this demand as much as possible.

TC

Here indeed many very good companies have emerged, including the previously mentioned Mercado Libre and Nubank, now both around the $100 billion scale, which is very full proof. But now, with the country's development, industry development, whether it's current penetration rate or interest rate levels, they are still at a relatively low position, meaning there's still great space for development.

Tracy

Hmm, the structural opportunities you mentioned are very interesting, especially the fintech companies just mentioned, I find very interesting. For example, the representative in the fintech field is Nubank. Its initial development story is quite interesting. At that time, they identified a pain point: many people in Brazil didn't receive good banking services, and the customer service efficiency of traditional banking institutions was very low, the experience was poor. So they seized this point to target some underserved lower-income groups, then provided services with a more efficient model. For example, they had no physical branches, and they focused on the core, most unmet need: providing users with credit card loan services. Their approach was, regardless of what kind of person you are, high-risk, low-risk, I don't care, I first give you a little money. The amount might be very small, then I start accumulating data, based on your repayment records, etc., to build my model, run data. Once it works, if my assessment is that you repay on time, then I give you a bit more credit limit, then continue running data, running their model.

Tracy

After progressing this way, within that low-income group – people who previously didn't have access to financial services – Nubank served them, and they also controlled risk well. Now they continue to move towards middle-income and even high-income people. It's a very typical example: they identified an underserved group, then effectively solved the intermediate information asymmetry, trust issues, risk pricing issues, and on the basis of achieving profitability, scaled up the business and built strong advantages.

Tracy

Also, the e-commerce mentioned earlier is similar. Because we discussed that Brazil's macro environment is actually very unfavorable for retail formats: high interest rate environment, high inflation mean for retail, its inventory turnover, inventory risks are significant challenges, so it's now at a ten times valuation state. But there are still structural opportunities, for example, using e-commerce methods to distribute goods to users more efficiently, providing higher cost-performance, faster service. So such companies, in this macro environment, with great potential and large enough market size, instead benefit rather than suffer.

Oliver

Indeed, we just talked about this market being very large, producing such hundred-billion-dollar companies. But during the development process, they will also face more or less competition issues. Recently, we actually observed in Brazil that strong overseas e-commerce companies like Shopee, Amazon, and Temu are also actively investing in Brazilian e-commerce. Especially Shopee has built many of its own logistics networks, competing with MELI (Mercado Libre) with low-price models. Amazon also announced several rounds of investment in Brazil, Temu follows the same strategy. So for MELI, it actually faces a lot of pressure. Recently we saw MELI is also reducing merchants' take rates, while subsidizing users, especially free shipping for the price range of 19-79 Reais. So MELI has also done a lot of work, but it puts some pressure on MELI's short-term revenue. Tracy, how do you view the potential competition issues MELI might face in the future?

Tracy

Hmm, I think the Brazilian market and the entire Latin American market are different from the previously discussed Central Asia. Central Asia is a relatively small-scale market, so once local players establish advantages, external participants aren't necessarily willing to invest heavily to join local competition. But the Brazilian and Latin American markets are different because the population size is large, and there's potential to build a unified large market, which everyone can see, and the per capita GDP level is still decent. So after reaching a certain stage, I think Latin America almost becomes a market that major players in e-commerce or other fields cannot afford to give up. And it indeed has some natural obstacles,

Tracy

Like the language mentioned, or the physical distance creating thresholds. But these thresholds aren't enough to completely keep competitors out; it's a matter of investment, cost, time. The prospects are too attractive, so it's almost impossible to give up. Specifically in e-commerce, whether it's Amazon or some Chinese-backed e-commerce players joining in, I think it will indeed put pressure on and change the competitive landscape. This is very different from earlier times when MELI's main competitors were local players, because the competitors then were relatively weak. But now facing these, whether US-backed or Chinese-backed, their pockets are deep, they can burn money, so the competition it faces cannot be underestimated. But because of the unique characteristics of Brazil and Latin America discussed earlier, the competitive situation in the Latin American market is likely still different from what we see in China. For example, Brazil's high interest rates, Brazil's infrastructure capabilities, it's more on the first-party players like MELI, not third-party, making it much more difficult for competitors from other countries to join.

Tracy

Second, although MELI is an e-commerce leader, its advantages are not limited to e-commerce; it's a whole set of e-commerce plus payment plus finance ecosystem, so it's a relatively more complex ecosystem competition. Although we see strong competitors now, and simultaneously MELI is taking many defensive measures, which might phased affect its take rate or profitability, it's still hard to say it will form a battle situation like Chinese e-commerce. And logically, because its advantages are still quite strong, ultimately the market might be split, with Chinese players and MELI each taking a part of the cake, but whether it shakes MELI is still hard to say.

TC

I think compared to the situation in China and the US, in China, because third-party logistics infrastructure is very good, the only competition is over traffic. After WeChat rose, Pinduoduo attracted many low-price users, completely intensifying competition in the market, creating great competitive impact on Alibaba. This situation, I think, is not impossible in Latin America, but we feel the situation might still be somewhat different.

TC

Especially we feel that, from a shopping perspective, people in Latin America are still in a state of hoping for a lower-friction shopping experience, somewhat similar to Americans' pursuit of shopping experience, meaning they don't want to completely focus on price. Because in China, besides price, even the service quality difference between third-party companies and JD.com which pursues particularly good service isn't that big. But we feel in Latin America and the US it will be different; price is only one part of the many services.

TC

So from this perspective, MELI has made many investments in logistics infrastructure, and in the financial ecosystem, including if you are a member, there are also many streaming media services; it's a comprehensive experience. Its entire membership service system I think will be different. So although some very price-sensitive people might lose some market share, and also people with higher demand for cheaper Chinese goods might flow to Chinese-backed platforms.

TC

But there are still quite a few people, I think, who will stay on the Mercado Libre platform. So its landscape I think is impacted, but overall its advantages are still relatively large. Another point I think is undeniable: the overall e-commerce penetration rate in Latin America is still at a relatively low level, their advantage relative to traditional retail is still quite large, so their overall growth, snatching market share from traditional retail, is also relatively obvious. It's not purely a stock competition. The situation China encountered was that e-commerce was already in the late stage, the ceiling was very near, but existing players competed very fiercely. This point I think means everyone is still in a co-development stage. Currently, overall, I think its competitive advantage as one company is still relatively obvious.

Tracy

To add, for Chinese-backed players, in some core cities in Brazil, the gap in logistics compared to MELI has indeed narrowed. But if you look across the entire Brazil, at areas outside major cities, because population density etc. are not like big cities, the difference where MELI leads other players is still very large, and hard to catch up.

Tracy

Another point is the shopping habits of Brazilians just discussed are slightly different from China's. In China, you find things like the viral sharing Pinduodoo started early, and playing games to get subsidies, but from talking with locals in Brazil, they don't like it that much; instead feel that kind of constantly getting red envelopes, clicking coupons, and always unable to get directly to the shopping interface feels too complicated, the effect isn't that good. Mentioning these two points means it will still be different, and traditional leading companies like MELI are still relatively more advantageous, and this advantage isn't easily narrowed.

TC

Yes, I think culturally there are differences. Especially Brazil, Argentina, you can see the people are more of Spanish, Portuguese descent, especially many whites in the south, many of their ways of thinking and habits are actually quite similar to Americans'. But in Asian cultural regions, it might be different. So I think many products made based on Asian culture aren't necessarily completely able to overwhelm Western cultural internet product habits; there's quite deep cultural influence inside.

TC

For example, many Westerners prefer to do one thing, single-threaded, get it done well, the entire thought framework is relatively simple. All products are relatively straightforward. But China, or Asian culture, always likes to create a so-called SuperApp, integrating everything, wishing you stay inside and don't jump out.

TC

So you see Chinese internet products, whether WeChat, Alipay, follow this logic. But for example, Western culture's WhatsApp is still just a communication tool, it doesn't have Moments, its separate social feed might be on Instagram. I think this isn't that these companies can't think of doing this, but they must have tried a lot, and all user groups, they might just prefer going to one place for e-commerce, then going to another place for chatting, going to Ins for looking at social feeds, various things. The final result of selection is, I think Chinese-backed advantages certainly have their own strengths, have their own fans,

TC

But it's not that all cultures, all internet characteristics must be exactly the same as the Chinese product form to be better. This point, in many social products, e-commerce products in the US, Europe, has fully proven that different regions might have different cultural characteristics. But it's just that many Chinese products are quite successful locally, for example, Didi's "99" (App), basically has reached a roughly 50/50 share with Uber locally, doing quite well. It's just that we feel different products, different forms, the Latin American market still has its own characteristics.

Oliver

Hmm, yes, let me add one more point. As mentioned earlier, MELI is a platform that does both e-commerce and finance, so overall compared to other platforms, it has more ecological advantages. Another point possibly not mentioned much earlier is its logistics advantage. Because we can also see that logistics in Brazil has always been a tough problem. I previously did some small research; in Brazil's overall GDP composition, consumption accounts for a relatively large portion, while investment's share of GDP is probably less than 15%, so overall infrastructure is very poor. The second reason is that the country has many mountains, especially in the northwest, making building railways and highways difficult, so most rely on air transport. So we see Brazil has over 5,000 airports. Therefore, third-party logistics, whether short-term or medium-term, might be very difficult to achieve at a relatively low cost. So any company wanting to enter Brazil to do e-commerce generally needs to build its own logistics network first. Looking at current warehouse area, if MELI is 100%, Shopee is now about 30%, and Amazon might be less than 10%.

Tracy

Yes, talking about Brazil's transportation issues, I think it's quite interesting. One is their land transport is indeed not great. When we were planning our itinerary, we found that besides being able to drive between São Paulo and Rio – though it still takes 6-7 hours between these two cities – other places are very inconvenient, Basically you can only rely on flights. And its flight pattern is, no matter where you go, from São Paulo, after going somewhere, if you want to go to the next place, you often need to return to São Paulo first, then go to the third place.

Tracy

There are many such detour issues, I think this has also increased the cost of transportation within Brazil, both time and monetary costs. Another point, even in São Paulo, a very large city, their urban road conditions aren't great either. First, during peak hours it's very congested, second, the road conditions are poor, lots of uphill roads, and the roads are very rough, with many speed bumps, so the driving experience within the city is also quite average. Another interesting point, not really impacting investment, is that São Paulo's traffic is relatively orderly, but in Rio you find in some good areas, like Ipanema and Leblon, these two areas are very safe, and their traffic is relatively good, maybe just congested. But when you go to some relatively remote or disorderly areas, you find people driving don't even follow traffic lights; I saw several times drivers running red lights directly. That's about Brazilian traffic, some interesting things, further corroborating the infrastructure issues Oliver mentioned.

TC

Yes, I think Brazilian transportation is quite congested, which I think is related to insufficient investment in infrastructure by the local government. For example, São Paulo city center often has traffic jams; actually, its urban area is much smaller than Beijing or Shanghai, but often going from one side to the other also takes over an hour. Also, very noticeably,

TC

Its lanes are relatively narrow. For example, very main arteries, the road from São Paulo to Rio often is only two lanes each way, just two lanes one direction, such a narrow road, can hardly be called a highway, and speeds often can't get high. Once there's an accident or something, it faces very long traffic jams.

TC

Coincidentally when we went this time, there was a tanker truck or something that had an accident, causing this very main artery to be jammed for possibly close to a day, a very exaggerated congestion state. So this state I think is also one where local development is still urgently needed, or a very important reason hindering faster development.

Tracy

Hmm, yes. But I think this problem might not be easily solved, because if relying on the private sector for infrastructure investment, it involves calculation, and the result might be unprofitable. If relying on government investment, actually the whole society is already in a high tax burden state, government deficit ratio is already high, especially the whole country has high interest rates. So doing anything through financing, your capital cost is expensive, so the government's ability to undertake infrastructure is also very limited. So the current state of infrastructure indeed has many problems, but no viable method is seen to solve it quickly.

TC

Yes, so in all aspects, just slightly away from some of the most core areas, If a company can be a leader in logistics and warehousing, I think it's quite different from the situation in China. China's uniquely favorable conditions in infrastructure, whether government or private sector investment being so sufficient, is actually very rare.

Tracy

Hmm, yes. Another small detail worth complaining about, for example, from São Paulo to some tourist cities, whether to Lençóis Maranhenses or Bonito, you find first their flights are not frequent. For example, flights from São Paulo to Bonito, only two days a week have direct flights. Other times you can go, but you need to first fly two hours to a nearby city, then take a 4-hour car ride there, bumpy all the way. To Lençóis Maranhenses is similar, two hours flight plus four hours car. So the distance doesn't seem that far, they are all in the south, but transportation is very poor, causing your entire round-trip travel time to be very long.

TC

Hmm, yes. This is partly due to insufficient investment, partly related to Brazil having particularly many rainforests, causing all its main economic bodies to be in some southern city clusters. Has some benefits, but overall national development indeed has various problems. Hmm, yes.

Tracy

We just talked about opportunities in Brazil and representative companies, then talked about a representative company in the internet field, Mercado Libre. Another company mentioned before is the representative in fintech, Nubank. We previously talked a bit about Nubank's entrepreneurial journey, seizing pain points. This company is actually very interesting. The situation it has achieved now is: it seized the pain point of low-income groups being underserved, entered, established a new model, can serve these people with low cost, high efficiency, control risk well, and the company can obtain relatively rich profits. After proving the model, it then penetrates into middle-income, now high-income groups. It has now reached a very good level, for example, its card-carrying user scale has penetrated almost half of Brazil's population; if calculated by adult population, it's about 80%. Of course, from a wallet share perspective, there is still room for improvement.

TC

Yes, often finance requires gaining people's trust; it's not easy to establish a strong brand. But because in Latin America the so-called Unbanked population was previously very high, once you can provide relatively convenient financial services, its value is very high. So it can quickly, in a very short time – they were founded in 2013, just over ten years – rapidly capture over 80% of Brazil's population. Now development in Mexico, Colombia, and other countries is also good, largely because the Unbanked population is large, customer acquisition cost is very low, and many traditional banks either serve inadequately or don't serve many populations. And they utilize the low-cost method of no physical branches to serve; this innovative model I think is indeed very beneficial for their expansion in the Latin American market.

TC

In fact, they are doing very well. Now they are also considering, gradually planning to enter the US market. Once successful among the US population, especially the southern Spanish-speaking population, with over 80 million people base, the incremental growth would also be very large for them, because US per capita income is much higher than Latin America's.

TC

Globally, using this very fast, low-cost bank model, I think it's basically the best case. Because most digital banks started either in Europe or, for example, many efforts in the US, but their biggest problem is that in these relatively mature markets, the Unbanked population is small, customer acquisition cost and the money needed to bridge trust are very, very high, and customer acquisition isn't easy, leading to very difficult growth. I think from a global perspective, they are also a quite successful case.

Tracy

Hmm, yes. And I think another very valuable point is that often in other regions, including China, fintech companies challenging traditional institutions need to start from some long-tail markets, so often implying greater risk. And they face an obvious contradiction: needing to balance rapid growth in scale with risk control, so the final result is often that emerging fintech companies bear greater risk, then if risk isn't controlled well, big problems easily occur.

Tracy

But this Nubank, as a fintech company, its risk control is very good. For example, looking at its credit delinquency, whether credit cards or personal loans, its loan delinquency rates are much lower than industry peers. Also, the loan amount per customer is lower than peers; this is more evident in personal loan risk control.

TC

Yes, I think Nubank's success, to a large extent, also draws on data, being very Data-driven. For example, initially they might give very small limits, then continuously test, constantly adjust based on your repayment situation. These methods seem simple, but the key is... I think often it's set off by the competition. Local competitors are relatively more traditional, outdated, they might do more collateral-based loans, simpler methods. While they use some newer, data-based, more quantitative methods for lending, can relatively better control bad debt rates, while simultaneously serving customers better, especially the relatively low-income, higher-proportion groups they initially targeted.

Tracy

Can give an example. For instance, when they first started lending to low-income groups, the limit might be only 15 Brazilian Reais, then they run the data to see repayment. After two years, this scale can be amplified three times, to 45 Reais. Actually, the amount isn't high, but it gradually builds up. And once this model is proven, they have almost no competitors in this field, because traditional institutions didn't serve these people anyway.

TC

Yes, actually when he mentioned such a small amount, I was quite surprised. Because I remember when I was still studying, the credit card I got started with several thousand RMB; I never had a credit card giving me just a few dozen RMB such a small amount. This situation shows that obtaining financial services was a luxury at the time and competition was not fierce, making such a good entry point possible: able to acquire customers, and your cost isn't high. If your goal from the start is to give several thousand or tens of thousands limits, then of course you need to be very cautious, of course many people are Unbanked. This difference in starting point, and data difference, led to this company standing out very well, I think it's also a very smart point.

Tracy

Yes, and once established, user stickiness is strong. For example, its cardholders now penetrate almost half of Brazil's population. They also mentioned one point: their customer acquisition cost is almost zero, meaning their users basically rarely churn after coming.

TC

Hmm, yes. Now they are also doing that... doing quite successfully. Mexico is actually a market with even lower credit card penetration than Brazil, the Unbanked population is also low, so we find replicating the model in many Latin American countries is still relatively successful.

Tracy

Yes, now they have basically proven the model in Mexico, then Colombia also proven the model, now replicating this model to the US.

TC

In the US, it certainly has some difficulties because competition is fierce, and the Unbanked population is relatively smaller. But we see that although smaller, there is still much space. For example, in the US, many companies like Afterpay, Affirm, etc., Affirm, and including emerging digital banks like Chime, are also competing for these Unbanked populations.

TC

But actually looking, they all have their own more or less problems. For example, Affirm, its own account system is far inferior to credit card companies; many people use it based on transactions. They are also constantly transforming, wanting to issue cards, etc., but currently, most of their revenue still comes from transaction-based behavior. Account-based new digital banks face the biggest problem: customer acquisition is very difficult, customer acquisition cost is very high, hard to profit. So we wait and see, whether a bank like Nubank coming from Latin America can make some successful cases in the US domestic market, where competition is already fierce but there is still development potential in many blank markets.

Tracy

Hmm, I think it's actually quite worth looking forward to. Because look at its situation in Brazil; actually, Brazil's "Buy-Now-Pay-Later" installment payments are very mature, user acceptance is high, and there are also some well-performing companies, like MELI's MercadoPago still emerged doing very well, and it entered from a wallet perspective, user stickiness is strong, customer acquisition cost almost zero.

Tracy

Once successful, you find something based on a wallet and credit based on transaction scenarios are different: one is transaction-based, without transactions you might not think of it; the other is wallet-based, stickiness might be stronger. So if Nubank can establish itself in the US with the same model, it's completely possible to see the Brazilian situation.

Tracy

Another point I find very valuable about Nubank is the company's team – they are always challenging the status quo, not satisfied with the current situation. Because many companies are very successful in the early stages of their business, but after rapid development to a certain stage, they will become rigid. But with Nubank, you find they constantly adjust their structure to adapt to future development needs. For example, they recently did an organizational structure adjustment. After long-term development, their hierarchy actually became quite layered, like now from bottom employee to top there are about 14 layers. Then they want to significantly reduce these layers, simultaneously made some adjustments to middle and senior personnel, highlighting areas they feel were insufficient, need more attention in the future to welcome better development. So constantly making adjustments, this point I think is continuously practicing their original value propositions, like customer first, then emphasizing intelligence and efficiency, valuing technology,

Tracy

Third, everyone should act like an owner, then emphasize diversity and dissatisfaction with the status quo. Looking at the company's development, they indeed practice this step by step. Even with the company so successful now, they still remain unsatisfied.

TC

Hmm, right.

Tracy

Hmm, okay then. Today we discussed some prejudices people had about Brazil, aspects where Brazil might be underestimated, explored some opportunities in this market, and some successful companies within it. Our sharing today ends here, hope it's helpful to everyone. We will share more content with you as soon as possible.

TC

Thank you, everyone.

Tracy

Thank you, everyone.