The digital bank and one-stop-shop financial services company SoFi Technologies (SOFI 7.41%) recently reported strong second-quarter results that beat expectations. The company also raised its full-year guidance, sending shares surging the day following its earnings report.
While the quarter was largely positive and seemed to put investors at ease, I still see room for improvement. Here are three things SoFi can improve on.
1. Reducing stock-based compensation
If you have been following SoFi for a few quarters now, it's easy to see that the company has paid out a lot in stock-based compensation, which means paying employees or members of the board of directors with equity in the company.
Many companies do this, and there's certainly merit to the practice, as it gives employees skin in the game and a real interest in staying with the company long term and seeing it succeed. But the practice has really diluted SoFi shareholders.
SoFi paid more than $80 million of stock-based compensation in the second quarter, or roughly 22% of total quarterly revenue, and more than $157 million through the first half of 2022. That's after paying more than $239 million of stock-based compensation in 2021.
In SoFi's first-ever investor presentation at the beginning of 2021, the company guided for $117 million of stock-based compensation in 2021 and $118 million in 2022. Both of those projections will come up woefully short of the actual numbers. SoFi's outstanding shares have climbed from less than 800 million in July 2021 to more than 922 million now. As long as this continues at this level, it's bad business for shareholders.
2. Deposit costs are too high
Since becoming a bank, SoFi has made it clear that it intends to build up its deposit base, which makes sense, considering it's a cheap source of funding the company can use to fund loan growth. And SoFi has leaned into this strategy, growing deposits by $1.6 billion in three months. It took the company three years to accumulate $1 billion of deposits before it became a bank.
But SoFi is mainly doing this by offering a 1.8% annual yield for members using direct deposit, which is 60 times the national average on savings accounts. That's great for members but maybe not so great for the business itself.
Members who come to a financial institution strictly for yield also tend to be the first to leave for a higher yield elsewhere. Paying 1.8% on deposits is a better price than what SoFi paid on warehouse debt before it was a bank and could be another way to grow members. But it's still hard to believe these depositors are very sticky, meaning SoFi will need to raise deposit pricing as interest rates go up.
Over time, SoFi can hopefully convert these customers from yield chasers to members who use other SoFi products, but the proof would really be in deposit pricing coming down.
3. Improving profitability in financial services
SoFi's financial services division, which includes the company's checking and savings accounts, its online brokerage SoFi Invest, credit cards, and its personal finance tool, continues to bleed money. While the division generated a record $30.4 million of revenue in the quarter, it also had a record contribution loss of $53.7 million.
The financial services division is really all about customer acquisition and bringing people onto SoFi's flywheel because the company notes that the top of the funnel starts with SoFi Invest or a deposit account before the company cross-sells customers a more profitable lending product. At the end of the second quarter, SoFi Invest accounts had grown 89% year over year and had almost reached 2 million accounts, while SoFi checking and savings accounts have grown 92% year over year.
SoFi CFO Chris Lapointe said on the company's recent earnings call that financial services has been making a variable profit for several quarters excluding marketing spend, which the company expects to cover by year-end in order to achieve variable profitability. Then Lapointe said SoFi will work to scale up to cover the segment's fixed costs by the end of 2023.
So it still seems like there are a ways to go before the segment is close to breaking even, and we haven't really seen material progress in that direction yet, which is something shareholders should watch carefully.