Lending technology company Upstart Holdings (UPST 2.76%) has gone from Wall Street hero to (almost) zero. After its shares soared by more than 1,000% in less than a year, they've fallen by more than 96% from their highs. Now, the stock is trading down about 33% from its IPO price. These days, investors backing Upstart are hard to find, but they are out there -- and I'm one of them.
Now, I'd be doing you a disservice if I told you that Upstart is running full steam ahead without any troubles; that's far from the truth. However, don't let the stock's dramatic swings shape your opinion of the business. Despite its fall from grace, there is much to like about the stock. Here are three reasons to love where Upstart could go from here.
1. Upstart still has partner support
Upstart's software evaluates the creditworthiness of would-be borrowers. It uses artificial intelligence, analyzing more than 1,000 pieces of user data to approve or deny loans. Upstart offers its software to banks and credit unions as an application programming interface (API) or originates loans and sells them. The company wants to make money on referral fees and loan sales, not by servicing loans on its balance sheet.
Upstart's role in originating loans is the context for its struggles in 2022. The company is sensitive to how credit markets loosen and tighten. Rapidly rising interest rates have not only made loans more expensive to consumers (which reduces borrower demand), but the turbulent credit markets have made selling loans harder for Upstart. Loan buyers want the potential for more profit because of the uncertainty, and rather than sell its loans at a loss, Upstart is holding some of them on its balance sheet.
The implosion of Upstart's business throughout 2022 is illustrated in the chart below. Loan volumes declined significantly just from the prior quarter in Q3:
Image source: Upstart Holdings.
There's no question that Upstart's struggling, but that has more to do with the tightening credit environment than the company's business model. The lending partners that work with Upstart have continued showing support. As of the end of the third quarter, 83 bank and credit union partners were working with Upstart -- up from 31 a year prior. And that number has increased each quarter despite Upstart's struggles. Originating loans is critical to lenders, so a growing partner network shows Upstart's technology still provides value for lenders.
2. Its financials remain solid
Upstart's financials are also holding up quite well. The company's cash balance declined by $84 million from Q2 to Q3, with $830 million remaining. There are now $704 million in loans on the company's books, and there's enough cash to cover them even if every single loan defaulted -- an unlikely scenario, to put it mildly.
Investors should focus on Upstart's balance sheet. A tight credit environment will likely bring more pain for Upstart, but right now, it has the cash to endure it. The loans on the balance sheet are still primarily for research and development. Just $249 million are the loans that Upstart chose to hold instead of sell at a loss. Ideally, that number won't go up much further, though it's something to keep an eye on. But to suggest that the company's on the brink of ruin -- as its share price decline might imply -- that assertion doesn't hold up to scrutiny.
3. The stock is priced for failure
A declining stock price is normal in a broadly sinking market, but Upstart's 96% plunge was extreme. One's natural first reaction to such a slide is to think that the company must be going under, but we've already seen that Upstart is financially upright. Does Upstart have what it needs to pull through these challenges and continue executing? Of course! However, the negative sentiment around the stock presents an opportunity for investors who anticipate that Upstart will succeed over the long term.
The stock trades at a price-to-earnings ratio of 23. Remember that this isn't a mature company. There are more than 9,000 banks and credit unions in the United States alone, and Upstart works with less than 100 of them. Even if the tough economy hurts Upstart's bottom line, the credit markets will eventually recover. Upstart could be much larger and more profitable if it keeps growing its partner network.
UPST PE Ratio data by YCharts.
Trying to time Upstart's success is impossible, but taking a multiyear time horizon to an investment in the stock will give investors a solid shot at realizing strong returns if the company succeeds. Until then, the stock could remain volatile, so consider Upstart a risky stock and add to your position slowly over time.
