Ben,
I’m not Chompin, but I do have a couple thoughts as to why the market has been so negative. I’d argue that the growth story being derailed in the short term is secondary to the fact that the company was forced to use its balance sheet to hold some of the bread and butter personal loans. On the CC management referenced that 75% of the $345M in incremental loans on the balance sheet were of the R&D variety (gotta provide a curve in new markets before others pony up cash), but that means $86M was of the traditional personal loan variety. The number on its own is troubling, but more so is the implication that if we see a broader dislocation Upstart could easily be stuck with more loans than it can handle. Management’s discussion about how previous vintages had returns above expectations and most recent vintages below expectations left much to be desired. What should customers expect going forward?
The “Great Recession” nailed pretty much everyone depending on securitization/outside funding, but the case of First Marblehead seems pretty pertinent. It was effectively the Upstart model, but for student loans, and without the terms AI/ML involved. Below is their brief platform description:
“Monogram platform is a fully outsourced, end-to-end private student loan solution for lender clients. The platform is designed to be flexible and helps our lender partners target risk profiles that align with their portfolio objectives. Product offerings include development of a customized private-label program, including a proprietary scorecard, school sales and marketing support, active portfolio management, and loan loss protection.”
Sound familiar?
Things went great until its loan guarantor went bankrupt, repayment rates stopped following pre-recession curves, and partners started questioning how much value the company provided. Stock fell off a cliff and never recovered, eventually going private for $65M.
Returning to UPST, a skeptic might well argue that the significant guidance drop in expected loans/revenues over the rest of the year might not just be because of tightening borrower requirements and the marginal effects of higher rates, but also an internal decision due to concerns about the market’s willingness to fund marginal loans.
I work in finance and have seen the many shortcomings of FICO. UPST may well offer a better solution, and the upside if successful is enormous. But I also realize that even if their solution is better than FICO, if it is not good enough to maintain partners in a recession there is substantial BK risk.
I had no interest in the stock at >$200, but I agree the risk/return at current levels is very reasonable. 5-10x upside very possible if they weather a down market cycle for their customers (potentially more if they succeed in other verticals). And 0 as far as they’ll drop!
A more cautious approach would be to wait and see how their recent and upcoming vintages perform. Of course, if the data looks good, one might be buying in 100%-200% higher.
I know you don’t need any help position sizing, but wish some of the folks on Saul’s board would realize that this type of company should never be purchased with funds you aren’t willing to lose entirely, and permanently.
