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1 Recent Software IPO With Massive Growth Potential

By Matthew Frankel, CFP® and Jon Quast – Oct 15, 2021 at 7:31AM

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This innovative SaaS company could be a big winner of e-commerce expansion.

Riskified (RSKD 0.55%) is a software company whose mission is to help e-commerce companies prevent fraud. In this Fool Live video clip, recorded on Sept. 30, Fool.com contributor Jon Quast discusses why this company could have a lot of room to grow in the years ahead, and whether investors should take a closer look.

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Jon Quast: So, Riskified is a recent IPO. In the last couple of months, they went public. I don't remember the exact date, but current market cap, $3.8 billion. So, what does Riskified do?

Basically, Riskified partners with e-commerce companies to help prevent fraud from happening. What am I talking about? Let's say that a person goes onto an e-commerce website, buys a very expensive computer with a credit card, only problem is it wasn't his credit card that he used to buy it, and so you get this charge on your credit card account. You say, "that wasn't me." You tell your credit card company and they have a chargeback on the e-commerce website. The crook got off with the goods and the e-commerce company has to eat it because they approved that transaction.

What Riskified does is it uses artificial intelligence to weed through all these transactions. Decline some that look like they're going to be fraudulent, approve others that look OK, and their goal is to approve more transactions than the e-commerce company would, but also to reduce that risk of the chargeback. Just a real quick reminder, sometimes we think that e-commerce is a played-out trend. It is not.

This is third-party research from eMarketer showing the entire global e-commerce market today at $4.2 trillion in 2020, I should say. We're coming up on the end of 2021, I guess still doesn't feel like it, but by 2025, $7.385 trillion, this is still a fast-growing market opportunity and as the e-commerce market grows, the chance for fraud is going to be bigger and bigger.

Just for some perspective here, Riskified software handled $60 billion in gross merchandise volume in 2020. That is around 1.4% of the total market here. There's still very small penetrated into e-commerce. This is a slide that they have from their slide deck that I really liked. The goal is to increase revenue and decrease costs for e-commerce companies, and they took their top 10 largest merchants that they have as customers on their platform Riskified.

Look at the average here in what they could decrease their costs, 39% for these e-commerce companies. These e-commerce companies here, they're saving. Their costs are going down by 39% because of the reduced chargebacks. This is net of Riskified fees. After Riskified has been paid, they're still saving that much money, and they are also increasing their revenue. Typically an e-commerce company might decline a certain transaction, but they shouldn't have declined it. They should have actually accepted it wasn't fraudulent.

Riskified AI software hopes to be able to better identify those things, increase revenue. This is a no-brainer. Now, what if Riskified is wrong? They eat that cost. Lower costs, increased revenue, and zero risk for the e-commerce company. That is quite the value proposition. Just some Q2 highlights here. This is their first quarter as a public company. Gross merchandise volume up 55% year over year. That is a very good growth rate and also beat analyst expectations. We got a net loss of $13 million. That was wider than last year.

However, it was better than analyst expectations, and that's a really small net loss, especially considering this company with its IPO proceeds is going to have over $530 million on the balance sheet and only around $54 million in long-term liabilities. Very manageable liabilities there, and that's a lot of cash, even if they're operating at a loss and why do they need this much cash, they want to invest in advertising. They want to invest in R&D. They want to invest in new geographies. It's very much a growth-oriented IPO.

These are just stellar ratings from Glassdoor here. I don't know if I've ever seen them this high. Granted it's only off of 51 reviews. Take it with a grain of salt, but 99% approval of co-founder Eido Gal and CEO. What's some risks for Riskified? Customer concentration. In Q1, five customers made up 45% of revenue. Going forward, how do we fix that risk? We get more customers. Be on the lookout for Riskified signing up new platforms to its service, and I also put here as a risk, its AI approach. And why? Because they're trying to find predictable patterns in unpredictable human behavior. Humans, in my opinion, are very unpredictable.

I think AI has good applications and so many things. Can it accurately predict human behavior? Because if it doesn't, if it's algorithms get worse over time, then its margins aren't going to expand. Riskified they eat those costs. When they're wrong, that comes out of their cost of revenue. The way that you can watch if its AI is actually getting better is watch its gross margin. If it improves, that means that they are refunding e-commerce companies less money, which means that their AI is getting better. So far this is true, 2019, their gross margin at 50%, steadily ticking up to 60% in the most recent quarter. It looks like Riskified is improving on that front.

Matthew Frankel, CFP has no position in any of the stocks mentioned. The Motley Fool owns shares of and recommends Riskified Ltd. The Motley Fool has a disclosure policy.

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