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The Ratings Game: Upstart earnings spark questions about company’s ‘fintech’ narrative

Shares of Upstart Holdings Inc. were sinking more than 11% in premarket trading Tuesday as analysts digested the lending company’s new reality.

While executives at Upstart

defended the performance of their artificial-intelligence loan model in a Monday afternoon conference call, they pointed to funding challenges as some bank partners pull back due to the uncertain macroeconomic landscape.

Upstart is an artificial intelligence based lending platform that partners with banks and credit unions to provide consumer loans using non-traditional variables, such as education and employment, to predict creditworthiness.

See more: Upstart stock drops after earnings, but CEO says he’s ‘confident’ in value of AI lending

Chief Executive Dave Girouard said on the call that Upstart’s team realizes a need to “upgrade and improve the funding side of our marketplace, bringing a significant amount of committed capital on board from partners who invest consistently through cycles.” Further, he shared that while the company doesn’t intend to “become a large balance-sheet lender whatsoever,” he sees the company turning to its own balance sheet at times as part of a “transitional phase.”

Analysts seemed to understand why Upstart executives might make this move, but some had questions about what it would mean for the company and the stock.

“UPST indicated that it may expand its balance sheet opportunistically, if funding remains challenged,” Piper Sandler analyst Arvind Ramnani wrote in a note to clients. “This is the third change on balance-sheet usage, which further expands the range of strategic decisions and financial outcomes.”

Ramnani acknowledged that he “[appreciates] Upstart’s desire to remain nimble” but said that the balance-sheet activity “potentially increases the risk profile of the company.”

“Given this dynamic and a constrained funding environment, we think UPST offers limited upside until visibility improves and the company delivers a steady cadence of results,” he continued.

Ramnani rates the stock at neutral, while cutting his price target to $24 from $25.

Barclays analyst Ramsey El-Assal also keyed in on the balance-sheet moves.

“While certainly understandable that UPST would use all loan-funding resources at its disposal (i.e., including the balance sheet) to bridge the challenging macro environment, we acknowledge that for some investors, this pushes the story more in the direction of a traditional lender vs. a fintech company,” he wrote.

El-Assal noted that Upstart’s shares fell more than 50% after the company’s first-quarter earnings report, a plunge he saw as “partly driven by UPST doubling the amount of loans on its balance sheet (vs. 4Q21) in an attempt to maintain marketplace volumes through a prior loan demand dislocation.”

More on Upstart’s balance-sheet strategy: Upstart stock plunge continues as more downgrades roll in

That said, he also saw some positives in Upstart’s latest quarter, including momentum with the company’s newer auto-loan product and evidence of Upstart’s pricing power.

Upstart’s “early successes in auto lending could be seen in larger average loan sizes, implying greater diversification in its product offerings,” El-Assal wrote.

Additionally, Upstart’s CFO “noted that while the company normally prices loans at a lower level in order to drive more volumes  on the platform, given the platform’s existing demand constraints, UPST has the flexibility to raise prices to better monetize current loan volumes,” according to El-Assal. “These higher take rates are more focused on ‘cash generation‘ and creating a more ‘resilient in-quarter P&L.’”

He rates the stock at equal weight with a $25 price target.  

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Beyond looking at Upstart’s plans around balance-sheet lending, Wedbush’s David Chiaverini noted that Upstart plans to bring more committed capital on board from longer-term investors, though this isn’t necessarily a simple solution, in his view.

Chiaverini wrote that “it’ll take some time before this comes to fruition and we believe committed capital agreements could result in material economic costs to put in place.” He has an underperform rating and $15 price target on the shares.

Upstart’s stock has lost 58% over the past three months, through Monday’s close, as the S&P 500

has added 3.7%.

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