SOFI - SoFi: The Breakout Approaches In 2024

2023-11-08 10:00:00 ET

Summary

• SoFi achieves its 10th consecutive quarter of record revenue, driven by diversification and expansion beyond traditional lending.
• The company demonstrates strength in attracting and retaining a growing customer base, adding 717K new members in Q3.
• SoFi's financial services segment experiences significant product growth, contributing to overall revenue growth and lending capacity.
• From a technical view, SOFI approaches a breakout point early in 2024.

Investment Thesis

In the rapidly evolving financial landscape, SoFi Technologies, Inc. ( SOFI ) has emerged as a resilient force, particularly in Q3 2023. The company's most striking development is its remarkable diversification, which has led to its 10th consecutive quarter of record revenue, defying the monolithic trend of reliance on traditional lending.

Amid a changing interest rate environment and the ongoing refinement of loan repayment dynamics, SoFi shows resilience and an ability to maintain profitable operations. Nevertheless, the company does face challenges, such as interest rate sensitivity and securitization risks that require strategic navigation.

Our investment strategy for SoFi Technologies has proven prudent, with the stock undergoing the anticipated correction from its peak, aligning with our predictions. Following up on our previous coverage and considering the recent earnings report and positive outlook, we reaffirm our buy rating for the long term, with our technical analysis suggesting an upward trajectory toward critical resistance levels in 2024. While risks exist, mainly from broader economic factors, the overall technical setup points towards a potential breakout.

Diversification Drives 10th Record Revenue Quarter Amidst Expanding Horizons

One of SoFi's fundamental strengths is its ability to generate growing revenue from multiple sources. For instance, during Q3 2023, SoFi achieved its 10th consecutive quarter of record revenue. Another significant indicator of SoFi's growth potential is its ability to diversify and expand beyond traditional lending.

Notably, 67% of the growth in adjusted net revenue dollars during the recent quarter was driven by non-lending businesses, specifically the technology platform and financial services segments. Therefore, this demonstrates SoFi's agility and strategic focus on developing complementary services, such as financial technology solutions, beyond its lending core. This diversification shields the company from potential vulnerabilities in the lending market, especially under the Fed's longer stance, and opens up new avenues for revenue generation.

Additionally, achieving positive contribution profit for the first time in the Financial Services segment is a crucial milestone for SoFi. The company's ability to operate profitably in this segment, despite ongoing investments, is vital for substantial growth, reinforcing the company's ability to scale over the long term.

Undoubtedly, the bottom line still indicates a net loss of -$0.29 loss per share, and this GAAP measure encompasses a one-time impairment charge of $247 million. However, when the impairment charge is excluded under non-GAAP measures, SoFi's net loss stands at $19.5 million (-$0.03 loss per share), significantly surpassing the consensus expectation of $61.4 million among analysts.

Looking at its financial position, SoFi's balance sheet reflects its ability to attract high-quality deposits (FICO score is 743 , US average 718 ), a key funding source for its lending and investment activities. The company experienced a record increase of $2.9 billion in high-quality deposits during Q3, resulting in nearly $15.7 billion in deposits.

What's even more reassuring is that over 90% of consumer deposits originate from direct deposit customers, indicating stable and dependable funding sources. Also, SoFi has demonstrated three consecutive quarters of tangible book value growth, and during the trailing 12 months, the company achieved $171 million in tangible book value growth.

SoFi's strength lies in its ability to attract and retain a growing customer base. For instance, in Q3, the company added 717K new members, bringing the total number of members to nearly 7 million, representing a remarkable 47% year-over-year growth in the member base.

The company has successfully offered a diverse range of financial products. The highest-ever quarter for new product additions in Q3, totaling $1 million, brought the total products to $10.4 million by the end of the quarter, showing a 45% year-over-year growth. Lastly, despite the rapid growth in members, the products per member remain at a healthy 1.5x , highlighting the appeal of SoFi's product suite and the propensity of existing members to adopt multiple products.

SoFi's Financial Services Soar with 50% Growth in Products

Within the financial services segment, SoFi achieved significant product growth. Financial services products reached 8.9 million by the end of Q3, reflecting a remarkable 50% year-over-year growth. The company's lending products also experienced substantial growth, exceeding 1.6 million and growing by 24% year-over-year. These numbers indicate SoFi's capacity to scale its financial services offerings with stable growth.

At the top line, the Financial Services segment's record net revenue growth of 142% year-over-year in Q3 2023 is a strong indicator of SoFi's capacity to generate revenue from financial services. This growth, primarily driven by SoFi Money, Relay, and SoFi Invest, contributes indirectly to lending capacity. By engaging customers through various financial products, SoFi increases its potential borrower pool and the overall financial health of its members.

Critically, SoFi's lending segment has consistently demonstrated strength. During the third quarter, the segment recorded a 15% year-over-year growth in adjusted net revenue, showcasing its resilience and contribution to its overall financial health. The fact that more than 77% of the adjusted net revenue in the lending segment comes from net interest income underscores the stability and profitability of this core lending business. Thus, the segment's contribution margin of 60% signifies efficient operations and effective management of lending capacity.

At its core, SoFi's strong net interest income growth is a vital indicator of its lending capacity. In a rising interest rate environment, financial institutions that can grow their net interest income are well-positioned. The 90% increase in net interest income from $139.5 million in Q3 2022 to $265.2 million in Q3 2023 reflects SoFi's ability to generate interest income from its lending activities. This growth results from higher loan balances and an expanding net interest margin ((NIM)), demonstrating SoFi's ability to lend profitably in an environment of increasing interest rates.

Leveraging Rising Rates for Record Net Interest Income Growth and Diversified Lending Success

Further, SoFi's lending capacity is enhanced by its diversified loan portfolio, which includes personal loans, student loans, and home loans. This diversification mitigates risk by spreading exposure across different lending categories.

The 38% increase in personal loan originations, the 101% growth in student loan originations, and the 64% increase in home loan volume in Q3 2023 reflect strong demand and SoFi's capacity to adapt to changing market demands, allowing it to continue lending even when specific segments face challenges. Home loan growth is partly attributed to SoFi's effective integration of Wyndham Capital Mortgage, reflecting its ability to expand its lending portfolio through acquisitions and enhance its fulfillment capacity.

To be precise, SoFi has seen an increase in the average rate on interest-earning assets and interest-bearing liabilities. The average rate on interest-earning assets increased by 0.53% sequentially and 2.44% (9.79%-7.35%) year-over-year. This increase can be attributed to the company's success in increasing the weighted average coupon on its personal and student loans.

Meanwhile, the average rate on interest-bearing liabilities increased just 0.18% sequentially and 2.30% year-over-year. The difference suggests that SoFi effectively manages its funding sources, focusing on shifting towards lower-cost deposits instead of higher-cost warehouse facilities.

Additionally, Sofi's expanding NIM to 5.99% in Q3 2023 (up from Q3 2022, 5.86%) demonstrates the impact of deposit growth on profitability. An expanding NIM enhances the profitability of lending activities, as it allows SoFi to offer competitive loan rates while maintaining healthy margins. The growth in high-quality deposits has contributed to SoFi's lower cost of funding for its loans. A lower cost of funding is a fundamental advantage, especially in a rising interest rate environment, enabling the company to offer competitive loan rates while preserving profitability.

Looking forward, SoFi recently announced a $375 million personal loan securitization exclusively with BlackRock ( BLK ) investment advisors. This expands SoFi's access to different sources of capital, which is crucial for expanding lending capabilities. The transaction issuer for this securitization is SoFi Personal Loan Trust 2023-1, backed by a pool of SoFi personal loan collateral.

To date, SoFi has securitized over $13.7 billion of personal loan collateral, indicating that SoFi is actively managing its debt obligations and leveraging external financing to fund its lending operations. This is a key shift in SoFi's lending capabilities, placing SoFi at an edge by sustaining its lending operation through financial markets beyond relying on deposits.

SoFi's Strategic Valuation Metrics Signal Strong Growth and Controlled Credit Risk

Examining the fair value model for personal and student loans reveals critical financial metrics: for student loans, the figures stand at a weighted average coupon rate of 5.3%, an annual default rate of a mere 0.5%, a conditional prepayment rate of 10.5%, and a discount rate averaging 4.8%. These values are crucial for estimating the fair value of the loans and assessing risk. The low default rate for student loans is a positive sign, as it indicates that the company is managing its credit risk effectively.

Notably, Q3 2023 shows a substantial increase in loan origination volume. The lending segment's total origination volume increased by 48% year-over-year. A notable sequential growth in student loan originations partly drives this growth. These figures demonstrate that SoFi is experiencing robust growth in its lending business, particularly in the student loan segment. Lastly, the average loan balance for student loans decreased by 5% due to loan paydowns or refinancing activities.

Therefore, considering these factors and figures, SoFi is primarily immunized from adversities and dynamics in student loan repayments (such as Biden Administration actions to channel the repayment process).

Interest Rate Roulette: SoFi's Profitability Balances on the Edge of Market Fluctuations

Inherently, SoFi's profitability is sensitive to interest rate changes. Higher interest rates could impact its cost of funding, affecting margins, while low rates (beyond the Fed's higher-for-longer) could lead to narrower net interest margins. In quantitative terms, a 1% interest rate change (+/-) can bring in a shift of nearly $353-$364 million in income (loss) before tax.

Also, SoFi partially relies on securitization to fund its lending operations. The practice poses risks, particularly if the securitization market becomes less liquid or more expensive, impacting the company's capital-raising ability. Under the prolonged quantitative tightening by the Federal Reserve, a potential economic downturn could impact the demand for certain financial products offered by SoFi, as borrowers may face financial stress and an increased risk of default.

Poised for Consolidation with Upswing Potential in 2024

Following the technical view in the previous coverage, it is anticipated that SoFi's stock price could exhibit a lateral movement over the upcoming weeks as it seeks to establish a consolidation phase bracketed between the pivot at $9.20 and the weekly support level at $6.75. Furthermore, an extended interaction with the 52-week exponential moving average ((EMA)) is expected to form a robust support structure in the near term.

This, in conjunction with positive strategic or financial developments, can propel the stock price toward the $11.55 resistance threshold. It is important to note that a reversal in price dynamics may occur at the pivot prior to advancing toward the $13.70 mark, especially in the short- to mid-term.

Conversely, the occurrence of adverse developments, such as a potential economic downturn or unexpected financial losses (although less probable), could exert downward pressure on the stock price, potentially causing it to breach the $6.75 support level, with $4.60 serving as a pivotal and critical support level in this scenario.

Concluding Thoughts

While SoFi navigates the complexities of interest rate sensitivities and securitization risks, its ability to maintain a solid customer base and sustain lending growth amidst a challenging environment underscores its potential for long-term growth.

Despite the cautious optimism warranted by the technical analysis, SoFi's comprehensive approach to financial services innovation positions it well to leverage upcoming market opportunities and weather potential downturns.

Investors may find comfort in SoFi's ongoing pursuit of profitability and market expansion, with a keen eye on the evolving macroeconomic indicators and internal financial milestones.

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