2 Extraordinary Growth Stocks Down Over 60%

If you ever need a reminder that investing involves a high level of risk, you only need to look at growth stocks that suddenly lose a substantial amount of value. Block (NYSE:SQ) and Upstart (NASAQ:UPST) are current examples.

Will these extraordinary growth stocks bounce back? Let’s begin with Jack Dorsey’s Block.

Block (SQ)

You might know Block Inc by its previous name, Square. Square’s payment processing devices and applications are still popular. The company has also added:

• Cash App, which lets individuals, businesses, and organizations send money to each other.
• Afterpay, a digital payment platform that primarily serves people in Australia and New Zealand.
• Weebly, a web hosting service with drag-and-drop features for building websites.
• TIDAL, a music streaming service that was previously owned by Jay-Z, Sprint Communications, and others.

In early March 2020, just before most people understood how much the pandemic would change their lives, Block shares traded for about $73. A year later, investors could expect to spend $215 to $240 per share.

The stock price tripled within just 12 months as investors realized the company’s contactless payment products would be in higher demand.

As face-to-face transactions dwindled, it became essential for consumers and companies to adopt digital payment tools like Square and Cash App.

Block’s good fortune started to change around the beginning of October 2021. In mid-October, a single share cost about $250. By the end of the year, Block’s price had fallen to $151. At the beginning of May 2022, shares traded closer to $100.

During the round trip in share price, Square has introduced more products, including checking and savings accounts, that should make it even more successful. The company has built an entire ecosystem of finance products and services.

So how does a company lose so much value over such a short time?

Inflation Hurting Consumer Sales… and Block

Some analysts speculate that the high inflation rate has hurt Block’s perceived value. Prices were 8.5% higher in March 2022 vs in March 2021.

Everyone is feeling the pinch. Unfortunately, salaries haven’t kept pace with inflation. That means a lot of people are effectively making less money this year than they did last year, even when they earn more in nominal terms. The buying power just isn’t the same.

What happens when consumers need to “tighten their belts”? They stop buying as many consumer goods so they know they have enough money to cover essentials.

Here is where Block starts to look like a bad bet for some investors. If people reduce their spending, Block’s ecosystem of finance products and services will earn less money. Although Block’s recent financials look good, some investors predict that the next quarter will show falling revenues.

The news isn’t all bad. Revenue forecasts are impressive:

• 2022: $19 billion
• 2023: $23.2 billion
• 2024: $28.1 billion
• 2025: $33.8 billion

The company is trading with attractive multiples:

• EV/Revenue: 3.2x
• Price/Book: 17.7x 
• Piotroski Score: 6

We calculate fair value at $99.67 per share, suggesting any dip in share price to the low $80s would be an opportunity to buy Block with a reasonable margin of safety.

Upstart (UPST)

Upstart (UPST) develops artificial intelligence that uses non-traditional factors to determine whether applicants qualify for loans. For example, the algorithm can include things like whether an applicant has a college degree, the GPA they earned, and standardized test scores to measure an applicant’s risk level.

Critically, Upstart does not lend money to applicants. Instead, it evaluates their risk and connects them to lending services. Upstart’s algorithm is believed to lower loan defaults by as much as 75% compared to services that rely on simple FICO scores and other traditional risk-assessment metrics.

Financially, Upstart has done extraordinarily well. Its 2021 revenue was $849 million, a 264% increase from the previous year. In 2021, it had an adjusted EBITDA of $232 million, up from $31.5 million in 2020.

The company projects even more success in 2022, with revenues reaching $1.4 billion. But those fundamentals haven’t supported its share price.

Shares peaked at $390 on October 15, 2021 after a climb that started in July. After the peak, Upstart began a long slide that reached lows near the $70 level. The stock lost about $265 per share within less than a year.

Higher Interest Rates Have Investors Concerned

Investors have worried for years that the Fed would raise interest rates, which could result in consumers and businesses to borrow less money. That fear finally became real in early May when the Fed increased its rate by 0.5%.

It makes sense for investors to feel uncertain about how Upstart will perform during a down cycle in lending. What has happened, though, is almost certainly an overreaction. Upstart’s AI algorithm hasn’t been publicly tested during a down cycle, so investors don’t know how it will perform.

There is a very good chance that Upstart’s advanced approach to determining risk could make it one of the most successful options during a down cycle. Even if the market suffers, Upstart may prove to be the winner. If it stands out as the best option in a tumbling industry, it could thrive because others fail.

Revenue growth has been astonishing:

• 2018: 88.6%
• 2019: 51.6%
• 2020: 26.6%
• 2021: 252.8%

Forecasted revenues are equally impressive:

• 2022: $1.4 billion
• 2023: $1.9 billion
• 2024: $2.8 billion

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The author has no position in any of the stocks mentioned. Financhill has a disclosure policy. This post may contain affiliate links or links from our sponsors.