Upstart: Leaner But Still Not Ready to Buy
Upstart (UPST) has improved its operations since the start of the rate hiking cycle, with both conversion rates and transaction volume increasing. However, sales have continued to decline due to the tough personal lending environment, and the company’s balance sheet remains full of loans.
Trends Improving, But Not Enough
Upstart’s conversion rate, which peaked at 24% in late 2021, fell to 8% at the start of 2023 due to rising interest rates and a decline in loan approvals. However, this trend is starting to reverse, with the conversion rate and transaction volume improving sequentially each quarter this year. Revenue has also followed suit.
Balance Sheet Woes
Despite these improvements, Upstart’s balance sheet is a concern. Since September 2021, cash has dwindled and debt has ballooned. This is because the institutional market for loans packaged and sold by Upstart has dried up. To compensate, Upstart has taken on bank debt and placed these loans on its own balance sheet.
Rate Cuts Are the Catalyst
A change in the direction of rates, specifically a decline, would alleviate much of the economic stress that has plagued Upstart. This would reverse the negative dynamics of declining defaults and improving transaction approvals. It would also signal a shift in sentiment for stocks that benefit from falling rates.
Economic Strength Is Key
Upstart’s performance is also tied to economic strength, particularly consumer strength. The University of Michigan Consumer Sentiment Index has been improving since mid-2022, and this trend has coincided with an improvement in Upstart’s conversion rate.
How This Thesis Could Fall Apart
Despite these positive signs, there is a bear case for Upstart. CFO Sanjay Datta has noted that personal fiscal health is precarious, with personal savings rates hovering close to all-time lows. This could lead to loan defaults and a poor Upstart loan conversion rate.
Conclusion
Ultimately, the decision of whether to buy or hold Upstart depends on the strength of the bear and bull cases. The company’s efficiency has improved, but the timing of rate cuts and the impact of rising delinquencies are uncertain. As a result, a ‘hold’ rating is maintained for now, but the potential for a ‘buy’ recommendation in the future remains if rates begin to fall.
