A year ago, AI lending platform Upstart Holdings Inc (NASDAQ: UPST) was cresting the wave of a beautiful ascent as the promise of a fairer way of underwriting loans looked to be a winner.
Unfortunately, the UPST stock price has now crashed for as long as it climbed (10 months each way) since going public in December 2020.
The UPST stock price fell a further -11.8% in yesterday’s session after missing analyst expectations on Q2 earnings and revenue. It blamed macro uncertainty and economic stress, causing a decline in available funding for loans. The company also said rising interest rates lead to more expensive loan offers to borrowers.
Upstart’s Q3 guidance also came in well below Wall Street projections, citing volatility in the current funding environment.
What is Upstart Holdings?
Upstart Holdings Inc (NASDAQ: UPST), through its subsidiaries, provides a cloud-based artificial intelligence (AI) lending platform to improve credit access while reducing the risk and costs of lending to its bank partners.
Upstart partners with banks and credit unions to provide consumer loans. Its unique selling point (USP) is that it uses non-traditional variables, such as education and employment to predict the consumer’s creditworthiness.
UPST applies modern data science and technology to underwriting consumer credit. It provides its bank partners with a proprietary AI-based origination platform for a fee. This platform helps the banks initiate credit with higher approval rates, lower loss rates and a high degree of automation.
Consumers access Upstart-powered loans by referral from Upstart.com to one of its bank partners or directly via a bank partner website.
Upstart also diversifies the funding of loans not retained by a bank partner. It does this via a broad base of institutional investors that invest in Upstart-powered loans.
In the first half of 2022, 26% of Upstart loans were retained by originating banks, institutional investors purchased 67% through its loan funding programs, and the remaining 7% were funded through Upstart’s balance sheet.
The company was founded by David Joseph Girouard, Anna Mongayt Counselman and Paul Gu in December 2013 and is headquartered in San Mateo, California.
UPST Q2 Financial Results
Total revenue: $228m, (up 18% Y/Y)
Total fee revenue: $258m, (up 38% Y/Y)
Bank partners originated 321,138 loans, worth $3.3bn, (up 12% Y/Y)
Conversion on rate requests: 13% (down 24% Y/Y)
Loss from operations: -$32.1m (down from $36.3m Y/Y)
GAAP net loss: -$29.9m (down from $37.3m Y/Y)
Adjusted net Income: $1m (down from $58.5m Y/Y)
GAAP diluted loss per share: -$0.36
Diluted adjusted EPS: $0.01
The contribution profit was $120.9m, up 25% year-over-year in the second quarter of 2022, with a contribution margin of 47% compared to a 52% contribution margin in the same quarter of the prior year.
Adjusted EBITDA was $5.5m, down from $59.5m in the same quarter of the prior year. The second quarter of 2022 adjusted EBITDA margin was 2% of total revenue, down from 31% in the second quarter of 2021.
Upstart repurchased 3.5 million shares of UPST stock, totaling approximately $125m.
Dave Girouard, co-founder and CEO of Upstart, said:
This quarter’s results are disappointing and reflect a difficult macroeconomic environment that led to funding constraints in our marketplace,
In response we’re taking the necessary actions to build a more resilient and committed funding model over time. We're confident that our AI-based risk model is more accurate than ever, and provides the opportunity for long-term, sustainable growth.
UPST Q3 Outlook
For the third quarter of 2022, Upstart expects:
Revenue of approximately $170m
Contribution Margin of roughly 59%
Net Income of approximately -$42m
Adjusted Net Income of approximately -$9m
Adjusted EBITDA of approximately $0
Basic Weighted-Average Share Count of roughly 81.8m shares
Diluted Weighted-Average Share Count of approximately 85.5m shares
How Does Upstart Holdings Make Money?
Upstart partners with banks that pay referral fees for loans. It also generates revenue via loan serving fees paid by the bank partner or institutional investor).
Fees can be fixed or variable, depending on the contractual arrangement.
UPST Stock Financials
According to FactSet, UPST stock has a price-to-earnings ratio (P/E) of 32 and a forward P/E of 23.7. Its price-to-book-value (P/BV) is 2.7, above the industry average of 0.5. UPST stock does not offer a shareholder dividend.
Upstart is not a profitable business and may be running out of money. According to FactSet data, During the Jun 2022 period, the Cash Ratio for UPST stock fell below 1.0 for the first time in four periods.
On August 9, UPST stock closed at $28.45, down -92.7% from its 52-week high vs. the subsector average change of -39.2%.
For fiscal Q2 ended June 30, FactSet analyst EPS consensus was $0.03, while UPST stock returned EPS of $0.01. Meanwhile, FactSet sales consensus was $241.63m, and UPST stock returned sales of $228.16m.
UPST Growth Potential
Upstart’s direct bank partner channel, which is bank branded, is a small but growing portion of the business, and Upstart believes it will continue to grow as it signs up new bank partners.
Much of Upstart’s historical growth has been driven by improving its AI models. Therefore, this continues to be a priority for the company.
Its AI models benefit from a flywheel effect over time. The more data it accumulates, the more accurate the system becomes. This leads to improved accuracy of risk and fraud predictions, resulting in higher approval rates, lower interest rates, and ultimately a more substantial business.
Dave Girouard, co-founder and CEO of Upstart, said:
There are tens of millions of Americans who deserve access to reasonably priced credit from our nation’s banking system, yet are denied access through no fault of their own.
Upstart aims to identify those borrowers unable to access lending through traditional means and provide them with access to affordable credit. If it can pull this off without exposing itself to undue risk and the likelihood of default, it could be on to a winning strategy.
UPST Stock Risks
A recession poses a significant risk to Upstart. Consumers losing their jobs may default on their loans. Plus, people will rein in their spending if they know the cost of living is rising.
Rising interest rates make loans on offer less desirable as they’re expensive to repay.
While Upstart’s mission is to serve the disadvantaged consumers mentioned above, it is a risky space to operate.
Over the last few years, the percentage of loans funded through the UPST balance sheet has generally decreased, while loans purchased by institutional investors have generally increased. However, in 2022, Upstart increased the percentage of loans funded by its balance sheet.
This year, Upstart has funded loans for research and development purposes to support new products and segments. It has also utilized its balance sheet to support short-term funding requirements of loans that would otherwise be purchased and held by institutional investors or securitized. This is likely to continue until it can secure more third-party capital.
Should You Invest in Upstart Holdings?
Upstart believes AI lending will become increasingly critical as the banking industry adopts a broad digital transformation. Therefore, its strategy is to provide banks with an established AI lending marketplace.
Year-to-date, the UPST stock price is down by -80.33%, while the S&P 500 is down -14.05% over the same period.
Over the past year, Upstart Holdings Inc (UPST) has traded between $22.42 and $401.49. Today it trades at around $28.20. Therefore, the current share price is far below its previous highs and may look attractive to some speculative investors.
However, FactSet analysts have a consensus HOLD rating on UPST stock with a target share price of $26.25.
Analyst Vincent Caintic of Stephens Inc rated UPST a Sell with a target share price of $23 on August 9, 2022. And analyst John Hecht of Jefferies rated Upstart a Hold with a target share price of $28.
With interest rates rising and recession on everyone’s lips, third-party funding available to Upstart could be constrained for some time. There is no dividend, and the company is losing money. This makes it a highly speculative investment, and UPST stock price recovery is likely to be slow.