Company: Upstart (UPST)
Share price: $212.51 on Nov. 29, 2021
Basic shares outstanding: 79.4 million as of Q3 2021
Diluted shares outstanding: 96.1 million as of Q3 2021
Market capital: $16.9 billion
Upstart (UPST) is an artificial intelligence/machine learning (AI/ML) company that simplifies and improves lending processes and experiences for banks and customers. Its AI lending platform is designed to improve access to affordable credit while reducing the risk and costs of lending for their bank partners. Compared to traditional lending, Upstart’s technology allows faster and mostly automated approvals (67% instantly approved) with lower annual percentage rates (APRs) and higher approval rates. The company provides a win-win solution for borrowers and lenders. Its phenomenal growth in the past few years is solid evidence that the AI platform works well.
Growth and valuation
For Q3 2021, Upstart reported (link) a revenue of 228 million (+250% Y/Y; +17.6% Q/Q) and the company guided $255 to $265 million (midpoint $260 million; +198% Y/Y; +14% Q/Q) for Q4 2021, indicating a full year 2021 revenue of ($121 + $194 + $228 + $260) = $803 million. The price/sales ratio (P/S) is $16.9 billion/$803 million = 21x. Being in a hot sector of artificial intelligence and growing at 56% (Q4 guidance annualized), the P/S ratio looks reasonable.
According to Upstart’s Q3 2021 presentation, its total addressable market (TAM) for personal loan originations is $81 billion, auto loan origination $672 billion, and mortgage loan origination $4.5 trillion. So far, auto loans have not contributed significantly to Upstart’s revenue and they have just started working on mortgage originations. That is to say, the growth in the past years has been due to the personal loan addressable market.
Upstart’s market share for the personal loan origination market
In Q3 2021, Upstart had a transaction volume of $3.13 billion and this indicates an annualized transaction volume of $12.52 billion or 15% of the personal loan originations market size of $81 billion. Investors may have concerns about how long Upstart could keep growing fast given its already significant market share in the personal loan market. On the positive side, the company’s auto loans originations business has not made a meaningful contribution to the top line, but is expected to make a significant contribution next year.
Some clarity on Upstart’s revenue from the auto loans originations business
In the Q3 2021 conference transcript (link), Upstart commented that the auto loans business is still in its very early days. They are starting to see results and build repayment history but it’s too early to give any specifics. However, we could estimate based on the following points.
- “But I think our expectation remains that — the loans are clearly bigger and so there will be a higher dollar revenue per loan.”
- “And we’re expecting probably a similar dollar sort of contribution profit per loan as we see in personal loans. So the percentages will be a little bit different because the loan size is bigger, but that’s our current going assumption.”
- In 2019, the average US loan amount for a new vehicle was estimated at $32,187, and $20,137 for used cars (link).
- Average personal loan size is approximately $3.13 billion/363,000 = $8,622/personal loan (Q3 2021 presentation).
Transaction volume in number of loans for the auto sector
For a market size of $672 billion and an average loan size of $32,187, the total transaction volume is approximately 20.9 million loans. For comparison, the personal loan sector’s total transaction volume is approximately $81 billion/$8,622 = 9 million loans. As the company commented, they expect a similar dollar sort of contribution profit between the personal loan and auto loan originations business. So, we could re-calculate Upstart’s market share, excluding the mortgage sector as it’s too early to do so.
Upstart’s market share based on transaction volume in number of loans
For both personal loans and auto loans, the total addressable market in number of loans is 20.9 million + 9 million = 29.9 million. Upstart did 363,000 loans in Q3 2021 or an annualized number of 1.45 million. That means a market share of 4.8%, a much lower penetration rate than the 15% for personal loans originations only, i.e., there is still a lot of room for Upstart to grow even before considering the addressable mortgage market.
Upstart had $1.17 billion in cash and restricted cash. Its GAPP net income for Q3 2021 was profitable. So, the company is well positioned for profitable and sustainable growth.
Upstart’s competitive advantages/moats
Intangible assets: Upstart’s patent-pending platform is the first to receive a no-action letter from the Consumer Financial Protection Bureau related to fair lending.
Cost advantage: Upstart saves borrowers money with lower annual percentage rate.
Huge TAM and TAM optionality: The total addressable market is huge and Upstart is expanding its business aiming to have similar successes in the auto loan and mortgage markets as it did in the personal loans market.
Early innings: Upstart has an early mover advantage as its AI gets smarter with more data. The company has made model and technology improvements that increased their conversion rate dramatically since inception. Also, it acquired Prodigy which was renamed as Upstart Auto Retail. Prodigy was the first could-based end-to-end automotive retail sales software that bridges the gap between how dealerships operate and the new way that people are shopping for cars.
Founder-led: The three founders have been working very well leading the company for high growth in the past years.
Upstart’s AI lending technology has been proven to be very successful in personal loan originations. It is working on expanding into auto and mortgage originations, which are larger addressable markets. The company expects its auto loan origination business to have meaningful contributions to the top line next year. Growing at 50%+ with a P/S multiple of 21x and relatively low penetration into its total addressable markets, UPST looks like a great stock to buy for years of compounding returns.
Disclosure: I am long UPST. This is not financial advice.