Sometimes the overall noise of a frightened stock market can drown out positive news for individual companies. This recently happened to digital banking firm SoFi Technologies (SOFI 3.10%) when it confirmed via a tweet that it could soon receive a national banking charter.
The stock market doesn't yet appear to have priced the charter into SoFi's stock price, allowing investors to continue buying at lowered levels. Here is why SoFi's potential bank charter is a big deal and why the stock might not stay down for much longer.
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Why a banking charter matters for SoFi
SoFi, which interacts with customers through an online interface, is trying to take on the brick-and-mortar banks that have remained the cornerstone of the financial sector for centuries. It's built a financial "super-app" that combines various aspects of a consumer's banking services all in a single interface, such as services for banking, investing, borrowing, and managing money.
Loans are a big part of the banking business, and without a charter, SoFi has had to partner with third-party banks to underwrite SoFi's loans. These partners do this for a fee, which takes away from the profitability of SoFi's business.
A bank charter would enable SoFi to do its own underwriting, just like a traditional bank would. It could lend out a portion of customer deposits to fund loans, which would increase SoFi's profitability. Management has estimated that this effect would "compound" over time and that, by 2025, it would increase EBITDA (earnings before interest, taxes, depreciation, and amortization) by 25% compared to without the charter.
SoFi's digital model is superior to traditional banks
Its increased profitability from the charter amplifies the advantages that a digital bank such as SoFi has over traditional, old-fashioned banks. It's expensive for regular banks to acquire customers, often offering special incentives and bonuses while paying for physical branches and employees.
SoFi's digital banking is through a smartphone app, so all customers need to do to join SoFi is download the app and sign up, and it can be done from your sofa at home in minutes. A traditional bank can spend up to $1,000 on average to acquire each new customer, while digital banks spend much less, estimated at between $20 to $50 per customer.
The "super-app" that SoFi operates could lower those costs over time because once a customer starts using the app, they could begin to adopt other features and services, which costs SoFi virtually nothing because the app already houses all of these offerings.
An attractive price creates potential upside
The stock carries a market cap of $12.6 billion, so SoFi is still a relatively small company in the financial space. Management has guided complete 2021 revenue guidance at $980 million, so the stock trades at a price-to-sales ratio of just under 13.
The company expects revenue to grow at an average of 43% per year through 2025, so the valuation looks pretty reasonable in the face of sustained growth. It could allow the share price to appreciate over time as the business grows. SoFi's increased profitability from the banking charter could also help investors justify paying a higher valuation for the stock moving forward.
Make sure to pay attention to this
Nothing is a guarantee in the stock market, so investors need to pay attention to SoFi's performance over the coming quarters to ensure that the company's growth remains on track. It's essential to make sure that revenue growth meets guidance, but investors will want to key in on its ability to continue growing its member base.
It starts with SoFi's membership count, which grew 113% year over year in Q2 2021, hitting 2.56 million. It was the eighth consecutive quarter of accelerating growth, and the app still ranks high for downloads in the finance category on the Apple app store, so momentum appears to be solid.
SoFi acquired payment technology platform Galileo last year for $1.2 billion in stock and cash. Galileo is a profitable business segment for SoFi, so it plays a vital role for the company. It enables payment processing for many emerging financial institutions, including Chime, Robinhood, and more. Its accounts grew 119% to 79 million in Q2 2021, so its strong performance gives SoFi exposure to the overall growth of digital banking.
Investors will want to keep an eye on SoFi's and Galileo's account growth because it will likely serve as an indicator of SoFi's overall revenue trajectory. If SoFi continues to grow at these rates and finalizes its banking charter, it could emerge as a prominent competitor in the banking space, giving long-term investors plenty of room for upside from its current size.
