BLND - Blend Labs Faces Industry Headwinds With Higher For Longer Rates?

2023-08-01 17:39:42 ET

Summary

• Blend Labs, Inc. provides software solutions for financial institutions seeking to improve their digital offerings.
• The firm's revenue is declining, and it is continuing to generate substantial operating losses.
• Given the potential for continued high interest rates and pressure on the mortgage and banking markets, I'm Neutral [Hold] on Blend Labs stock for now.

A Quick Take On Blend Labs

Blend Labs, Inc. ( BLND ) went public in July 2021, raising approximately $360 million in gross proceeds from an IPO that was priced at $18.00 per share.

The firm provides software to support financial institutions to develop new services and improve their existing service offering presentation.

I previously wrote about Blend with a Hold outlook.

Blend Labs, Inc. management is focusing on reducing operating losses through cost savings, but revenue growth may be very difficult to come by in the near term.

I'm Neutral [Hold] on Blend Labs in the near term.

Blend Labs Overview And Market

San Francisco, California-based Blend was founded to develop a suite of lending, credit card and deposit account interfaces that enable legacy banks to present a more modern look to their service offerings.

Notably, the firm's revenue model is not a standard SaaS revenue model, rather, the firm only charges for completed transactions and doesn't charge for abandoned or rejected applications.

Management is headed by co-founder and Head of Blend Nima Ghamsari, who was previously employed at Palantir Technologies.

The company's primary offerings include white-label interfaces for:

• Mortgages.

• Home equity loans.

• Home equity lines of credit.

• Vehicle loans.

• Personal loans.

• Credit cards.

• Deposit accounts.

Blend also provides title insurance procedures and other related closing and settlement services.

The firm pursues banking relationships via a direct sales and marketing process targeting customers from the largest banks to smaller community lenders.

Management has said the COVID-19 pandemic "accelerated a shift in consumer behavior away from traditional branches and toward digital channels for banking services, resulting in a 30% increase in the use of mobile banking worldwide." ( Source )

According to a 2020 market research report by Mordor Intelligence, the global financial services application market was an estimated $104 billion in 2019 and is forecast to reach $164 billion by 2025.

This represents a forecast CAGR of 7.89% from 2020 to 2025.

The main drivers for this expected growth are a need for financial institutions to modernize their infrastructure stack to remain competitive for younger demographic users.

Also, the industry needs improved business intelligence solutions as competitive pressures increase from newer fintech firms.

Major competitive or other industry participants include:

• Tavant Technologies.

• Major consulting firms.

• Systems integrators.

• Institutional financial software companies.

Blend's Recent Financial Trends

• Total revenue by quarter has continued to trend lower; Operating losses remain very high.

• Gross profit margin by quarter has trended lower, but with a recent uptick; Selling, G&A expenses as a percentage of total revenue by quarter have trended much higher, but with a recent downturn.

• Earnings per share (Diluted) have remained heavily negative.

(All data in the above charts is GAAP).

In the past 12 months, BLND's stock price has fallen 51.31% vs. that of the iShares Expanded Technology-Software ETF's ( IGV ) rise of 23.42%, as the chart indicates below.

For the balance sheet , the firm ended the quarter with $306.9 million in cash, equivalents and short-term investments and $217.5 million in total debt, none of which was categorized as the current portion due within 12 months.

Over the trailing twelve months, free cash used was $189.1 million, during which capital expenditures were $2.1 million. The company paid a hefty $101.8 million in stock-based compensation in the last four quarters.

Valuation And Other Metrics For Blend

Below is a table of relevant capitalization and valuation figures for the company.

(Source - Seeking Alpha).

The Rule of 40 is a software industry rule of thumb that says that as long as the combined revenue growth rate and EBITDA percentage rate equal or exceed 40%, the firm is on an acceptable growth/EBITDA trajectory.

BLND's most recent unadjusted Rule of 40 calculation was negative (152.7%) as of Q1 2023's results, so the firm has performed poorly in this regard, per the table below.

(Source - Seeking Alpha.)

Commentary On Blend Labs

In its last earnings call ( Source - Seeking Alpha ), covering Q1 2023's results , management highlighted that the firm is "well ahead of our revenue and cost-saving targets."

The firm's results were due in part to "the strength of [its] mortgage customer base" and the company closed one of its largest platform deals to date during the quarter.

Management wants to continue to prove out its Blend Builder platform as it seeks to expand its total addressable market "across every line of business within banking."

Total revenue for Q1 2023 fell 47.8% year-over-year, while gross profit margin increased by 2.2%.

Selling, G&A expenses as a percentage of revenue increased by 19.3% YoY and operating losses dropped by 30.1%, an encouraging sign.

The company's financial position is only moderate, with plenty of liquidity and some debt, but significant free cash burn is constraining management's timeline to turn the business around.

BLND's Rule of 40 performance has turned sharply negative year-over-year.

Looking ahead, consensus revenue estimates for the full year 2023 $168.2 million at the midpoint of the range, or a drop of 28.5% YoY.

If achieved, this would represent a sharp reduction in revenue versus 2022's growth rate of 0.26% over 2021.

From management's most recent earnings call, I prepared a chart showing the frequency of key terms mentioned (or not) in the call, as shown below.

I'm most interested in the frequency of potentially negative terms, so management or analyst questions cited "Uncertain" once, "Challeng[es][ing]" three times, "Macro" three times and "Drop" three times, indicating negative stresses on the company's results.

Analysts questioned company leadership about the sales environment in the mortgage market and the firm is seeing a slowing of sales cycles as mortgage margins continue to be under intense pressure.

Regarding valuation, in the past twelve months, the firm's EV/Sales valuation multiple has risen about 13%, as the chart from Seeking Alpha shows below.

The primary business risk to the company's outlook is rising interest rates and worsening leading economic indicators as they continued to fall in June, according to The Conference Board's index .

The index's history from 2000 to the present quarter shows the periods of recession in vertical gray areas against the lines of real GDP change (gray line) and the leading economic indicators index (blue line) in the chart below.

So, with leading economic indicators remaining well into negative territory, I'm cautious about the economic outlook and the stock market's direction in the near term.

Although a pause in the rise of interest rates may bring a short-term boost to mortgage refinance and purchase markets and the stock, I'm cautious about the "higher for longer" potential for rates and their effects on home buying activity and banking activity.

As such, I'm Neutral [Hold] on Blend Labs for now.

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