Upstart stock shocker: High interest rates take a toll

Is every business connected to artificial intelligence (AI) a surefire winner in 2024? Upstart Holdings (NASDAQ:UPST) is putting this idea to the test as its stock rapidly loses value today.

The company’s underlying concept seemed to make perfect sense last year. If AI is the silver bullet that makes everything more efficient, why not apply AI to the lending process?

That’s what Upstart does, and the market certainly favored this proudly disruptive, AI-enabled lending facilitator in the summer of 2023. AI fever hasn’t evaporated since then, but U.S. monetary policy certainly hasn’t made it easy for Upstart to conduct businesses lately.

Remembering better times

Going back to last summer, the outlook was much brighter as Upstart Holdings reported a per-share profit for the second quarter of 2023. Yet, one data point doesn’t make a pattern, and unfortunately, Upstart fell back to per-share losses in the following two quarters.

The UPST stock price has also declined since last summer, dropping from $70 to less than $30. This morning, the share price fell 20% as traders assessed Upstart’s fourth-quarter and full-year 2023 financial results.

Since Upstart Holdings has no earnings and therefore no trailing price-to-earnings (P/E) ratio, it’s challenging to assign a meaningful valuation to the company. For what it’s worth, Upstart’s trailing 12-month price-to-sales (P/S) ratio is around 5, which is nearly double the sector median P/S ratio of 2.52.

This valuation may have been more palatable when it seemed inevitable that the Federal Reserve would cut interest rates at least half a dozen times in 2024, including at its January and March meetings. However, there was no rate cut in January, and a March-meeting rate cut seems much less likely now.

In other words, higher-for-longer interest-rate policy looks like a possibility for this year, and higher borrowing costs may be here to stay for a while. That’s a problem for unprofitable businesses in general, but it’s even worse for Upstart Holdings since its business depends on robust borrowing and lending activity.

In other words, Upstart Holdings’ AI connection might not be enough to keep it afloat and get investors excited when the Federal Reserve isn’t eager to cut interest rates. With that in mind, let’s see if Upstart’s quarterly stats indicate decent growth for this intriguing lending-market start-up.

Not a bad end to the year

If you’re a stickler for profitability, then you probably won’t like Upstart Holdings’ fourth-quarter results very much. However, comparatively speaking, Upstart ended 2023 on a generally positive note. At least, that’s how CEO Dave Girouard feels about it.

He proudly declared, “Despite the difficult lending environment, we delivered solid results to end the year.”

“Solid” is a vague term, but the Q4 numbers seem to support Girouard’s contention. During the quarter, Upstart’s revenue declined 4% year over year to $140 million. However, that’s up 4% compared to the prior quarter. Furthermore, Upstart beat the analysts’ consensus estimate of $134.8 million.

That’s actually pretty impressive, considering the company only originated 129,664 loans in Q4, down 19% year over year. Most likely, this is attributable to high borrowing costs.

Turning now to the bottom line, Upstart Holdings reported an adjusted net loss of $9.7 million in the fourth quarter. This represents a narrowing of the profitability gap, since the company incurred an adjusted net loss of $20.9 million in the year-earlier quarter.

A cautious outlook

It wasn’t Upstart Holdings’ quarterly results that disappointed investors. Rather, the culprit was its current-quarter guidance.

“Looking ahead, we remain cautious about the near-term outlook for our business, and we’ll continue to operate responsibly in this environment,” Girouard warned investors.

With that cautionary statement, Upstart Holdings guided for current-quarter revenue of $125 million — a figure that fell far short of Wall Street’s call for $152 million.

Moreover, Upstart guided for an EBITDA loss of $25 million for the first quarter, whereas analysts had forecast positive adjusted EBITDA of $5 million. Thus, the market’s negative reaction starts to make sense now.

Wedbush analyst David Chiaverini articulated the market’s concerns, writing, “We fear that challenging credit-quality performance combined with macro risk could continue to pressure appetite from Upstart’s credit buyers and the securitization market.”

He also reiterated his Underperform rating on UPST stock and assigned it a deeply pessimistic $10 price target.

Chiaverini’s concerns are duly noted. Even with a loud-and-proud AI angle, Upstart can’t easily thrive during a higher-for-longer interest-rate environment. Therefore, it’s wise for investors to wait and watch and look for clues from the Federal Reserve rather than jump into a hasty trade with Upstart stock.

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