SOFI - SoFi Technologies: Time To Load Up

2023-12-13 07:30:54 ET

Summary

• SoFi demonstrates staggering revenue growth and strong balance sheet, positioning it for aggressive investment in marketing and cross-selling opportunities.
• Recent quarterly earnings exceeded estimates, with revenue growing by 27% YoY and a positive outlook for future earnings.
• My valuation analysis suggests the stock is massively undervalued.

Investment thesis

My initial bullish thesis about SoFi Technologies (SOFI) did not age well as the stock tanked by 13% since late July, substantially lagging behind the broader U.S. market. But SoFi is in the early innings of its development, and short-term stock volatility is normal. Recent developments suggest that fundamentals continue improving, as SoFi demonstrates staggering revenue growth fueled by the massive client base expansion and rapid introduction of new services. The company's strong balance sheet positions SoFi to continue aggressively investing in marketing. This is crucial because a wide array of services offered by SoFi creates massive cross-selling opportunities, and the importance of customer base growth cannot be underestimated in the "land and expand" business model. The recent stock price pullback made the valuation even more attractive, and I see the 28% upside potential for the stock. All in all, I reiterate my "Strong Buy" rating for SoFi.

Recent developments

The latest quarterly earnings were released on October 30, when the company topped consensus estimates by a notable margin. Revenue grew YoY by a staggering 27%, surpassing more than half a billion in quarterly sales for the first time in the company's history.

The company's negative EPS might be a concern for SOFI bears, but the revenue is growing rapidly, and we definitely see positive EPS dynamics as the business scales up. The last quarter's drawdown in the bottom line should not mislead as there was a one-off non-cash $247 million goodwill impairment recorded during the quarter. Without this extraordinary item, the quarterly net loss is around -$20 million, compared to -$74 million in Q3 FY2022. That said, the financial performance dynamic suggests that the company will be able to sustain its strong balance sheet with ample liquidity, which includes almost $3 billion in cash as of the latest reporting date.

The earnings for the upcoming quarter are scheduled for release on January 30, 2024. Strong revenue growth momentum is expected to accelerate slightly as consensus estimates project quarterly revenue at $571 million, a 29% YoY increase. The EPS is expected to break even in Q4, a notable YoY improvement compared to -$0.05 last year. Another bullish sign is several upward EPS revisions over the last 90 days, indicating optimism regarding the next earnings release.

I share this optimism because of the fact that the company's strategy looks sound and the execution looks exceptional. In the financial services industry, the ability to "land and expand" is crucial for sustainable success. I like that SoFi invests heavily in expanding its customer ["members"] base, demonstrating massive momentum with a 47% YoY growth in Q3. It is difficult to underestimate strong customer base expansion given that SoFi offers its clients a wide array of services and strives to become a digital one-stop shop for financial services. An extensive customer base, together with a diversified portfolio of offerings, creates massive cross-selling opportunities. When the business cross-sells something, its customer acquisition cost for the cross-sale is zero, which significantly drives down overall costs. In addition to the apparent cost advantages derived from serving as a comprehensive hub for financial services, the greater the number of services clients utilize, the less likely they are to switch to potential competitors of SoFi.

SOFI's unique approach to expanding its portfolio of services via partnerships allows it to introduce new services and expand its ecosystem rapidly. The company's strong balance sheet also provides notable room to develop new services in-house. Therefore, I see further potential for SoFi to introduce new products, creating more cross-selling opportunities. That said, I do not consider a recent exit from the cryptocurrency business by SoFi to be a big problem.

Valuation

SOFI delivered a massive 80% year-to-date rally, significantly outperforming the broader U.S. stock market and the Financial sector ( XLF ) in 2023. It is unsurprising that SOFI has a low Seeking Alpha Quant valuation grade since it relies on the ratios analysis depending on the TTM and next year's performance. Therefore, I need to look at the growth profile and how valuation ratios will look over the long term.

Consensus estimates project aggressive revenue growth for the next decade as the top line is projected to increase by almost four times by FY 2032 and to more than double by FY 2027. The bottom line is expected to follow the massive revenue growth, and I would like to look at the forward FY 2027 P/E ratio of SoFi.

As we can see above, the FY 2027 is projected by consensus at 11.29, which does not look too high. Since SoFi operates in the financial industry, I would like to look at the FY 2027 P/E ratio of the two behemoths of this industry: JPMorgan Chase ( JPM ) and Bank of America ( BAC ). SoFi's FY 2027 P/E ratio looks approximately in line with the expectations around JPM and BAC, indicating an attractive valuation.

Over the last five years, on average, both JPM's and BAC's P/E ratios were around 11.5, which aligns with the FY 2027 EPS of SOFI. Let us also not forget that SoFi's revenue is expected to compound at 20% CAGR by FY 2027 and will almost double between 2027 and 2032. On the contrary, the two giants' revenue is expected to demonstrate almost no growth.

To derive the stock's fair value, I believe that given strong revenue growth expectations for the next decade, FY 2024 sales of $2.5 billion multiplied by the TTM P/S ratio of 3.99 will be conservative enough. That gives us a $10 billion fair value of the business, which is around 28% higher than the current market cap. That said, my target price estimate for SoFi is $10.4.

Risks to consider

SoFi is at the very early stages of its development. It is still unprofitable, which means there is a high level of uncertainty regarding the financial attractiveness of the business model. While there is a positive trend with bottom-line losses gradually narrowing each quarter, the company has yet to achieve sustained profitability. Past massive revenue growth rate does not guarantee that SoFi will be able to sustain its sales expansion pace long enough to achieve superior profitability compared to the industry averages.

The company faces fierce competition in the crowded U.S. financial sector, where major institutions like JPM and BAC possess significantly greater resources and larger customer bases. The presence of these giants poses substantial competition risks for SoFi, as they can potentially leverage their extensive capabilities and established market positions to limit SoFi's market share and growth opportunities. While SoFi's relatively small scale allows the company to be much more flexible and adopt new products and approaches faster, overcoming the dominance of such well-established players is a challenge.

Bottom line

To conclude, SoFi is a "Strong Buy". My valuation analysis suggests the stock is around 28% undervalued, which is very attractive. Despite recent stock price weakness, the company's fundamentals continue improving rapidly. The massive pace of client base expansion and the constant addition of new services to its portfolio will likely produce strong synergies for the company over the long term.

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