Upstart Stock Buy Or Sell?

Upstart [NASDAQ: UPST] is a leading proprietary, cloud-based, artificial intelligence (AI) lending platform that aggregates consumer demand for loans and connects it to the network of company’s AI- enabled bank partners. It helps banks widen the circle of qualified borrowers by offering a better look at credit-worthiness thus improving access to affordable credit while reducing the risk and costs of lending for banks. 

By taking different variables into account, Upstart serves as a bridge towards affordable credit by constantly finding new ways to identify potential lenders. In addition to taking traditional underwriting criteria—FICO score, credit report, and income – it uses non-traditional variables, such as education and employment, test score and work history to predict creditworthiness, and helps banks widen the circle of potential lenders.

Upstart, which leverages artificial intelligence and machine learning to improve access to affordable credit, was incorporated in 2012 and is headquartered in San Mateo, California. The company went public in December 2020.  

Upstart Stock Forecast: The Bull Case

Despite the fact that over 80% of Americans never default on credit products, less than 50% of the population has access to prime credit.

This is where Upstart, a cloud- based artificial intelligence (AI) lending platform, makes its presence felt by improving access to loans by connecting consumers to its network of AI-enabled bank partners. 

UPST Earnings recap

Upstart topped analyst estimates for the first quarter and reported $0.22 earnings per share on revenue of $12.3 million, a 90% year-over-year growth, and 40% quarter-over-quarter growth.

Revenue from fees accounted for 95% of total sales. This stellar growth came on the back of a 102% growth in loan originations. During the same period last year, the company posted $0.05 EPS.

On the bottom line, GAAP net income, aided by robust revenue growth, rose by 583% to $10.1 million, while EBITDA also increased by a huge 472%. This places Upstart amidst the few rare fintech companies that are both growing fast and are profitable. 

A number of factors could be attributed to Upstart’s stellar show in Q1.

The acquisition of Prodigy Software, Inc., a provider of cloud-based automotive retail software, was one of the major factors; it allowed Upstart to deliver more affordable and transparent auto loans to thousands of customers.

In fact, the acquisition of Prodigy helped Upstart increase its dealership footprint by 45% in Q1, and almost $800 million in vehicles were sold through Prodigy in Q1, a harbinger of things to come for Upstart from this prudent investment.  Also, during the quarter, Upstart became a certified digital retail provider for Subaru of America retailers. 

Additionally, Upstart launched a new version of its core credit decisioning AI model, which is actually a blend of multiple machine learning models. These models work together to enhance the accuracy of risk assessments; this, in turn, leads to higher number of loan approvals with lower interest rates. 

Foray into the auto loan industry

Each year, approximately $1 trillion worth of cars are sold in the US, and most of them are financed. Yet, purchasing a car consistently ranks among the worst consumer experiences, with less than 1% of buyers satisfied with the current process.

Strategically aligning itself in the auto finance loan segment, Upstart recently entered into a highly lucrative auto segment that is about $626 billion compared to the personal loan opportunity of approximately $92 billion, which so far has been the prime focus of the firm. 

The acquisition of Prodigy, end-to-end sales software that bridges the gap between how dealerships operate and the new way that people are shopping for cars, should only complement its expansion plans. The auto refinance product, which started in one state, has expanded across 33 states in Q1, representing more than two-thirds of the U.S. population.

The macroeconomic outlook

The consumer credit market suffered a significant decline in 2020 because of the pandemic, and lending slowed significantly for personal loans. The economy is now in rebound mode, which is likely to strengthen the consumer credit market.

Reports project U.S. real consumer spending to rise nearly 10% in 2021 and over 5 % in 2022. Most of the loans are expected to be disbursed to low-risk customers, which means Upstart will have an important role to play here.  

Also, there’s distinct possibility that the central bank might feel pressure to withdraw stimulus to cool rising inflation pressures. The Federal Reserve recently said it might move up the target date for raising interest rates. With stimulus support likely coming to an end, it can be expected that consumers will turn towards alternative financing options, which is again good news for firms like Upstart. 

Overall, the consumer credit industry is showing a lot of positives, and disruptive innovators like Upstart are soundly positioned to leverage this encouraging growth.  

Buoyed by strong Q1, the company also raised its revenue guidance for 2021, increasing it to $600 million from the initial $500 million. Upstart is also keen on diversifying, with the AI platform eager to expand into the mortgage and credit card segment to obtain competitive advantage by becoming a diversified lender. 

The company is moving in the right direction and is well-positioned to disrupt the U.S. consumer credit industry with its sound business strategies and robust technology portfolio. The company has so far partnered with 18 banks, and there’s no reason to believe that the numbers will not increase in the coming months given the fact that auto lending is central to a lot of banks, and the auto loan product should attract more banks to Upstart’s AI platform.

Partnering with more banks will augment the company’s revenue stream, allowing it to become a prominent player in the fintech industry. Upstart is a relatively young company, which means any single lucrative partnership can quickly up its revenue and profit.  

All in all, Upstart’s access to invaluable consumer data will increase its operating efficiency as well as its competitive advantage in the long run. The company’s expansion into new fields, technological changes and the continuous improvements to the product portfolio makes it an extremely attractive stock for growth investors with an extensive investment time horizon.

The Bear Case for Upstart Stock Price

There are few risks concerning Upstart that investors should be aware of, as any one of them has the potential to upend Upstart’s revenue and send UPST share price on a downward spiral.

One of the biggest risks associated with Upstart is that the majority of the revenue it generates is tied to a couple of major customers. In fact, its top two customers contribute to over 80% of fee revenue.

In Q1, Cross River Bank accounted for approximately 60% of Upstart’s revenue. The dependence on a single bank for around 60% of its revenue is a cause for significant concern. 

The most recent commercial arrangement with Cross River Bank began on January 1, 2019 for a term of four years with an automatic renewal provision for an additional two years following the initial four-year term. It would be rather catastrophic for Upstart if Cross River Bank refuses to renew the contract after the expiry of the agreement period.   

Upstart, as such, needs to diversify its source of revenue, by entering into partnerships with more banks while keeping its current relation with Cross River intact. It is important as banks play a critical role in Upstart’s business model, which are funding loans and acquiring new customers. Inability to strike deals with more banks or the failure to help a bank disburse more loans is going to negatively impact Upstart’s financial performance.

A second major risk is Upstart’s reliance on Credit Karma. More than 50% of the loans originated in Q1 came through loan aggregator Credit Karma, which is the main company which helps attract applicants to the Upstart platform. Upstart’s recent agreement with Credit Karma does not prohibit Credit Karma from working with Upstart’s competitors or even prevent Credit Karma from offering competing services. 

Also, it is important to note that Intuit [NASDAQ: INTU] has recently acquired Credit Karma. Intuit may choose not to continue the agreement with Upstart on the same terms or conditions or, for that matter, choose not to continue the agreement at all.

Then there is also the possibility of Intuit creating loan products in future that could compete against Upstart. All in all, loss of Credit Karma could severely impair Upstart’s business as it could lead to Upstart losing almost 50% of its existing customers. Upstart, however, well-aware of this risk, recently acquired Direct Mail to mitigate the risk of overwhelming concentration of loan traffic originating from Credit Karma.

The third factor to consider is Upstart’s competitive advantage which comes from its AI-enabled platform that allows banks to disburse more loans while also keeping default rates low. This requires Upstart to continue making investments in its platform to remain ahead of the competition, while also ensuring that banks do not create a competing platform themselves. 

The Bear Case Conclusion

Despite the success of the company and rising stock prices, Upstart, like any other investment, is not devoid of risks.

The company is profitable and doing well, but that must continue to evolve given the high price of the stock and high expectations that investors have of the firm.

It is doing an admirable job of advancing the consumer loan industry, but it is important to keep a close eye on these three risk factors going forward.

Upstart Stock Price Forecast

The 1-year price target for Upstart’s shares range from a high of $190.00 to a low of $101.00.

On average, Upstart’s stock price is expected to reach $103.50 in the next twelve months.

Is Upstart Stock A Buy?

Traditional lending methods generally rely on old-style FICO score-based model, which uses 5 metrics, to measure credit risk. Upstart has gone beyond such traditional methods by making use of technology to help protect the lender against financial loss, as reflected in its mission statement which declares that its objective is to provide “effortless credit based on true risk.“

Upstart’s own study shows that less than 50% of Americans have access to prime credits despite the fact that more than 80% have never defaulted on a loan. Its AI-enabled lending platform works well for both, the banks and the borrowers. It let banks evaluate borrowers using more than 1,000 variables and advanced machine learning algorithms.  The thorough evaluation enables a bank to lend more confidently because the risk of borrower default is negated to a considerable extent.

Upstart states that over 70% of loans evaluated through its platform are instantly approved, and with minimal human interaction, which helps the company save a lot of money on its labor costs.

It recently announced a partnership with NXTsoft, a provider of open-API software that will enable Upstart to more efficiently implement its all-digital AI lending platform to any U.S.-based financial institution. It works with 99% of bank systems, so banks will now be able to more quickly integrate Upstart’s AI platform into their existing services.  

The firm also had a phenomenal quarter where its revenue increased 90% year over year and 40% QoQ to $121 million, and net income grew from $1.5 million in the 2020 first quarter to $10.1 million. Earnings per share of $0.22 was well above analyst expectations of $0.15.

The company is in its early years, but its current performance generates a lot of optimism in its future prospects. It is continuously working on its AI to make the platform more attractive to a larger pool of clients.

Upstart’s smart move to enter the flourishing auto business 

Upstart stock continues to scale new heights, and so far, has gained more than 200% year to date. One major reason why investors are so excited about the company is its decision to enter the $626B auto loan industry, which offers possibility of even faster growth and more market share. Apart from that, the company also has a huge addressable market in financing, including $3.4 trillion in mortgages and credit cards and $92 billion in personal unsecured loans.  

Upstart considers auto lending as its next big opportunity; it is presently a little over six times the size of personal lending. Auto loans have become a significant part of many banks’ businesses, and they are sure to see value in making use of a platform that could help them with higher loan disbursement while significantly cutting down on risks. 

Upstart is looking to make it much easier for customers to buy a vehicle through more accurate pricing and instant approvals. 

The company in March acquired Prodigy Software, a cloud-based automotive retail software. Upstart describes Prodigy as being like the “Shopify for car dealerships” by helping car dealerships create a modern-day multi-channel car buying shopping experience.

Upstart has now expanded its auto refinance operation from one state to thirty-three states, which covers more than two-thirds of the US population. It has already sold almost $800 million in cars through Prodigy in the first quarter. 

Car sales slumped during the pandemic, but have strongly rebounded in the past few months. That, coupled with worldwide chip shortage that’s reducing supply, and creating demand-supply mismatch, is resulting in higher car prices. According to Statista, car sales are expected to keep climbing in 2022 and 2023, and Upstart is well positioned to benefit from these sales trends as it strives to increase its footprints in a highly lucrative segment. 

Buy or Sell Upstart Stock?

Upstart is expecting $600 million in revenue for fiscal 2021, representing a 157% increase year over year. On top of that, the company is profitable, which is pretty much rare for a high-growth stake. 

There are risks, though, such as more than half of its revenue coming from one bank, and a very high valuation with price-to-earnings ratio of 500 times trailing-12-month earnings.

Despite a few prominent risks, the acquisition of Prodigy, the company’s excellent fundamentals showing strong revenue growth with profitability, and ultra-low interest loans, which enhances loan affordability, contribute towards making Upstart an exciting high-growth stock. 

Upstart Investment Thesis Conclusion

Upstart is a business that has been growing at a tremendous pace, and the company is showing no signs of slowing down at all. For starters, there are over 5,000 banks in the US, and Upstart currently partners with only 18 banks, which means there’s a long runway to expand. The company is also continuously working on increasing its acceptance rate while lowering its interest rate on applicants (APR).   

Upstart’s fast-growing AI-powered software platform is the one that’s really moving the needle for the company. It offers the firm competitive advantage by helping it approve 71% of loan applications instantly on the spot, without uploading documents, calling, or waiting, by making use of data analytics. This increases the approval rate for loans while decreasing the average interest. 

The company, after absolutely smashing recent earnings estimates, projects close to 160% growth in revenue for 2021, which means that the company is confident about loan originating from its platform to to register a healthy increase. Its first-quarter revenues grew 90% year over year, while its conversion rate on loan requests increased to 22% in Q1 from 14% in the prior year.

Until recently, Upstart had primarily focused on personal loans. But the company recently entered into the highly lucrative auto segment with estimated worth about $626 billion. The acquisition of Prodigy, the cloud-based automotive retail software, is only going to complement its expansion plans. Also, Upstart is one of the first consumer lending platforms to receive a “No Action” letter in 2017 from the Consumer Financial Protection Bureau (CFPB), a federal agency overseeing consumer protection in the financial sector. 

There are undoubtedly a lot of positives associated with Upstart, but the company has significant risks associated with it as well. The major risk is concentration risk, with two of the 18 banks it works with contributing over 80% of its fee revenue. As such, losing a major customer could prove devastating for its business. Also, there’s possibility that large banks with deep pockets can hire their own data scientists to replicate Upstart’s AI platform in the long run. 

Additionally, detractors will point out that given its small size and high concentration risk, Upstart is steeply valued at nearly 16 times expected 2021 sales. This will be a volatile stock as a result. 

All in all, the company has a unique business model, a vibrant balance sheet, a unique AI platform, and tremendous growth opportunities for years to come. The company could be one of the biggest disrupters in the financial world, and if it can mitigate its concentration risk, it would be a great investment for high-risk tolerance investors with a time horizon for 5-10 years. 

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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.