StoneCo (STNE 5.01%) is a fast-growing company that provides payment solutions for small businesses across Brazil. Investors in the fintech have experienced a wild ride over the past few years, with the stock reaching as high as $95 per share before plummeting 90% over the following year.
This year, the fintech is up almost 50% and the company has made moves to make the business more resilient after a couple of tough years. If you're thinking about investing in StoneCo today, you'll want to consider the following things first.
1. The fintech provides financial solutions to small businesses in Brazil
StoneCo has headquarters in the Cayman Islands, but its primary business is providing financial services to small and medium-sized companies in Brazil. The fintech provides payment solutions, such as point-of-sale terminals, e-commerce gateways that allow merchants to accept online payments, and mobile payments. It also provides tools including inventory and customer relationship management.
The fintech's primary revenue source is transaction fees for payments processed through its platform. It also earns subscription fees from merchants who use its business management tools and rental fees from its point-of-sale terminals and other hardware.
2. Berkshire Hathaway holds a position in the fintech
StoneCo made its public debut in the U.S. in 2018, and surprisingly, Warren Buffett's Berkshire Hathaway scooped up 14 million shares of the fintech at its initial public offering (IPO) price. The move was a surprise because Buffett and his team tend to invest in established, blue chip stocks that provide steady cash flows.
At the end of the third quarter, Berkshire Hathaway held 10.6 million shares of StoneCo, or 3.5% of its total stock outstanding.
Image source: Getty Images.
3. A bad loan portfolio was a massive drag on its performance
A few years ago, StoneCo operated a lending business that was a significant part of its overall business. This business faced headwinds amid a struggling Brazilian economy thanks to high interest rates and a weak recovery from the height of the COVID-19 pandemic.
At the same time, StoneCo relied on Brazil's national registry database to underwrite its loans, only to discover that the registry contained bad data. As a result, it extended loans to non-creditworthy businesses and lost hundreds of millions of dollars on its lending portfolio. StoneCo was forced to take losses of hundreds of millions of dollars, which dragged down the business and the stock in the process.
StoneCo has since taken steps to improve its credit underwriting, updating its risk models, enhancing its data, and rolling out its credit products on a limited basis to evaluate its new models.
4. Total payment volume and client base continue to grow at a steady pace
In addition to gradually ramping up its credit business, StoneCo continues to grow nicely across its payments business. Through the first nine months of this year, the company has increased total revenue by 25% year over year, thanks to solid growth in its client base and total payment volume.
Chart by author.
In the third quarter, its total payment volume and client base in its financial services segment grew 11% and 40%, respectively, from last year.
5. Its valuation is cheap compared to recent history as competition heats up
StoneCo stock is valued at 2.2 times sales, well below its average price-to-sales ratio since going public in 2018. The cheap valuation makes it an intriguing stock for investors, and management seems to agree. Following a solid quarter of earnings, StoneCo management said it would buy back up as much as 1 billion Brazilian reals worth of its stock, or about $206 million.
Data source; YCharts
Investors will want to consider its competition from Pix, the Brazilian central bank's instant payment app. Pix launched in late 2020, operates 24/7, and charges no processing fees for individuals. The service has grown substantially, and this competition from Brazil's central bank poses a big threat to StoneCo's rapid growth and is a trend investors will want to keep a close eye on.
With that said, StoneCo presents an intriguing opportunity for investors to buy a company with solid growth in an emerging market, as long as you are willing to tolerate the associated risks.
