Usually, most young, high-growth stocks tend to be far away from profitability as they focus solely on boosting sales and adding customers. However, at least one company seems to offer the best of both worlds and looks intent on disrupting a huge, multitrillion-dollar industry.
With volatility reigning supreme for this company's stock, posting 52-week highs of $401 and lows of $39, a purchase at today's prices could bring more significant returns than beloved meme stocks AMC Entertainment Holdings and GameStop over the long term.
Automating credit risk
Led by its mission to "enable effortless credit based on true risk," artificial intelligence (AI)-focused lending platform Upstart Holdings (UPST -2.04%) exploded onto the scene after its December 2020 initial public offering. However, after rising more than 1,000% in less than a year, Upstart has seen its share price reverse course and give up over 60% of its gains.
Seemingly caught up in the wake of the broader technology growth stock sell-off, the company's shares have quickly become an appealing investment proposition. Although Upstart's reliance upon Cross River Bank (CRB) for 63% of its revenue as of year-end 2020 may still fuel investor concern, the company has said that the number of banking partners using its AI technology had risen from 10 to 31 as of the third quarter of 2021.
Over time, these added partners should slowly wind down the company's exposure to CRB, giving Upstart well-needed diversification across the banking industry.
Upstart connects consumers, banks, and institutional investors through its platform. Its AI models and financial technology enable its banking partners to quickly originate new loans without relying on traditional consumer credit scores that can lead to unwarranted loan denials. The company collects revenue from referral fees, platform fees, and loan-servicing fees, while having minimal exposure to credit risk.
Upstart now operates primarily in the personal-loan market, but management has its eye on expanding into auto loans and mortgages, offering tremendous long-term potential to investors.
In what may be an early sign of good things down the road for Upstart, founder and Chief Executive Officer Dave Girouard said that four of its banking partners have stopped using FICO scores for loan applicants. Should this become more widespread in the banking industry, Upstart looks beautifully positioned to lead the consumer creditworthiness revolution.
High growth and strong free cash flow
Thanks to the company's banking partner expansion, Upstart is delivering blistering growth, and third-quarter revenue rose 250% from a year earlier. Despite this already scorching growth rate, the company is just beginning to tap into broader growth opportunities.
First, in auto loans, it tripled the number of dealer partnerships it had in the third quarter, year over year, expanding to 291 dealers and seven bank partners. This is a huge opportunity for the company to tap a $600 billion market.
On top of this potential in personal and auto lending, Upstart has its eyes on the $4.5 trillion mortgage market. This product line is still in its infancy for the company, but management expects to begin making serious investments here in 2022.
Perhaps best for investors, all this growth potential comes with a robust free cash flow (FCF) generation of $237 million over the trailing 12 months, implying a FCF margin of 38%.
While its 250% sales growth rate is by no means sustainable for an extended period of time, its powerful FCF creation makes Upstart a unique investment opportunity, even if sales growth decelerates in a major way. This could especially be the case for Upstart, considering its recent drop in price.
A reasonable share price
Now trading at a hefty discount from its 52-week high, Upstart's price-to-free-cash-flow (P/FCF) has fallen to 51.
Whenever I can find a company with a growth rate higher than its P/FCF ratio, it catches my attention -- and Upstart's 250% sales growth rate is nearly five times that of its P/FCF ratio. Consider that Apple, the largest company in the world, trades at a P/FCF of 32, and it's clear that should Upstart continue to see success, the market may be deeply undervaluing its growth potential.
At these prices, Upstart's long-term vision, high growth rates, and strong cash generation make it a fantastic stock to hold for decades.