I've recently talked about Upstart – the fintech stock that has been on a tear this year... I had $LC on my radar, but after their earnings and jumping more than 30% after it, I had to prioritize my analysis on Lending Club. Is this the next Upstart? Let's find out... because I don't wanna miss this rocket ship to the moon.
If you haven't already read my analysis on Upstart, I suggest you start here. It'll help you understand the potential of Lending Club, because Upstart went parabolic since then... but recently declined after a downgrade on its stock. Either way, the business model hasn't change and I am looking for an entry on that stock. But, what if there was a cheaper one with a better risk/reward.... like, idunno, Lending Club?
I'll start by assuming you know about Upstart's model, and work from there. It's more or less the same thing. But, the company has been public for a longer period of time... and it's my honest opinion that it just chose the wrong time to go public, and came out too early. Because of that, there is some attached stigma... because, well, the stock didn't do too well since it IPO'd. They also drastically changed their business model this year, with the end of P2P lending. But, now, it's got some serious momentum – especially piggy backing off of Upstart's.
The business model for both Lending Club and Upstart, boil down to loan origination.
Loan origination is the process by which a borrower applies for a new loan, and a lender processes that application. Origination generally includes all the steps from taking a loan application up to disbursal of funds. – Wikipedia
The key difference is that Upstart sells it's loans to two key bank partners (or customers); whereas Lending Club has a banking charter – through its acquisition of Radius bank – allowing it to retain about 20% of the loans it originates on their balance sheet. Ending their P2P lending platform, their still allowing retail investors to participate with their "high yield savings account". So, in short, Lending Club is a much more diversified business... which it wins in this category for me.
The only argument for Upstart is that its "AI-powered" lending algorithm which is supposedly superior to FICO or anything we've had before... allowing them to generate more loans, with less risk. Again, this is proprietary information, so nobody really knows what it is... but it's great marketing! Lending Club, although doesn't do half as good of a job marketing their automated lending, is using AI-driven models.
Upstart yells out the fact that they approve 70% of their loans automatically.
Lending Club is probably being more prudent, and likely has a lower percentage of automatic approval, but they do have a much bigger data set of 15 years and $60bn in loan origination. Although they don't market this as well, on their Q1 2021 earnings call, CEO Scott Sanborn mentioned the following:
We take this huge data set and apply the latest analytical techniques, including neural networks and machine learning to inform our decisions. We deployed dozens of models to drive our targeting, fraud, underwriting, pricing, servicing and user experience, and to manage outcomes for distinct customer segments.
This allows us to make compelling offers to customers, while providing competitive returns for platform investors. It also allows us to automate originations and efficiently grow loan volume without a proportional increase in headcount.
In my mind, Upstart has the "sexier" appeal... but, Lending Club might be the one you want to end up with.
Let's Talk Numbers
As always, premium subscribers of The Hawk Letter get the full breakdown of my assumptions and forecasts – which you can use to play around with. But, if you rather just trust me, I'm cool with that too :) BUT, make sure you watch the YouTube video, because it's impossible to get it without following the calculations imo.
I'm expecting Lending Club to be at $2.6bn of revenues by 2024, which is a 46% CAGR. By comparison, I'm expecting Upstart to be at $4b, at much faster growth rate. However, there is a lot more risk and uncertainty with Upstart, given their limited history.
They both make up 7% of the loan origination, which further proves their business model is pretty much identical — ignoring any AI-driven advantages, and Lending Club's diversification and banking charter advantage.
In terms of loan origination, they're both generating about $10bn of loans this year. But, I'm forecasting Upstart to grow loan originations at a much faster pace. Again, there's a lot of uncertainty in that assumption.
The main kicker here is Net Income (and Margin). On the surface, it appears that Upstart is a much more profitable company, which is consistent with the story of them being more efficient... but when we dig deeper, that ISN'T in fact the conclusion. Lending is required to comply with Current Expected Credit Loss (CECL) provisions, where it wrote off $34M in the last quarter, and deferred $17.5M of revenue. In the last quarter, they already matched Upstart's margins; but if we factor those provisions and deferrals in, they have a massive upside. I'm not saying there will be no loan losses, but typically this is a conservative number. My point is, Lending Club should have the same valuation as Upstart.... but, does it?
Before we answer that, I also want to point out that Upstart is spending about 40-50% on marketing to acquire the origination of those loans (not to mention, a lot of their marketing is concentrated on few sources). Lending Club, on the other hand, kicked it up in their last quarter and went up to 30% — which is significantly lower than Upstart. I think they should spend to be a legit competitor and gain market share; but, they're clearly more efficient and organic loan origination (probably because of their longer history).
Like I said, I think Lending Club deserves the same valuation as Upstart (based on the things I just mentioned). But, LC has a market cap of $4.5bn; whereas Upstart has a market cap of $26bn. There is Upstart should be valued 6x more than LC. I'm not saying Upstart is a bad company. I like it. But, LC deserves more recognition.
If LC can obtain a 40x P/E in 2024, based on my projections, we're looking at $130/share — that is my price target... which is a 2x from here. We don't often get these, especially given how conservative I am.
With Upstart, for example, using a 50x P/E (so giving some premium for higher growth), we get a $380 price target – which is only a 15% upside.
I think the writing is on the wall here.
I'm not saying Upstart is a bad stock. In fact, I just opened a position with its recent dip. I would've like it lower, and I did go against my disciplined buy range, but I think this might be all we get. However, it is a gamble. It's a very calculated gamble though, because given the fact that LC had a blowout quarter, it's safe to think that Upstart will do the same after it's earnings call on November 9th.
With Lending Club, it's a much better risk/reward play, so I have opened a position there, and will look to add to it, despite it being up up 30% in the last two days.
It's a no brainer for me.
The reason I own both, is because I've learned that fundamentals don't always align with stock price, and there's a chance that Upstart continues to blow it out of the park... and there is of course risk of execution for both companies. I also own SOFI.
But, in terms or risk/reward, Lending Club is the clear winner imo. Make sure you do you own research, and form your own opinion :)
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