Fed Dread Evaporates As Management Steps Up
Leading “Buy Now, Pay Later” service provider Affirm (AFRM: $44) has had a rough couple of months, with the stock down over 70% since November. The once piping hot trailblazer has lost over $35 billion in market cap, and now trades below its January 2021 IPO price of $49, despite witnessing a multifold growth in active consumers, GMVs, and revenues during this period.
While most fintech stocks have taken a hit since late 2021, Affirm’s drop is far worse even relative to this broad-based correction. This is all the more perplexing, considering the company’s recent quarterly figures, with a 77% YoY increase in revenues, a 150% increase in active customers, gross merchandise value (GMVs) up by 115%, followed by a mammoth 1,900% YoY jump in active merchants - absolutely crazy strong numbers!
Affirm has remained under pressure since mid-November, when multiple rate hikes seemed increasingly plausible in the face of sky-high inflation. With rising rates, the cost of capital would make BNPL services less profitable on a per unit basis. Management addressed this directly during the recent quarter, with the outlook already reflecting a 180 basis point rate increase.
That's right. An aggressive Fed is built into the business model. And we suspect that's part of the reason Affirm has rebounded a healthy 68% from its recent low now that the Fed has finally started stepping up. There's still ground left to recover but this is a stock that's back on the bull trail.
What else have people found to complain about? The company also faces higher risk premiums with its asset-backed security auctions, with major investors pulling out citing higher market volatility. Finally, the jury is still out when it comes to delinquencies, with data still quite sparse and further clarity only possible as loan books grow bigger and pick up a bigger share of the overall credit market.
While these are all genuine concerns, the stock's recent move to the upside demonstrates the fact behind all the dread, speculation and empty chatter: the risks have been blown out of proportion, and the market response is an overreaction. That's the real important thing anyone looking at Affirm today needs to digest. It was well known that the company would post higher losses as it scales, while collecting valuable data to optimize its offerings. Losses were further enhanced owing to an increase in credit provisioning during the quarter, at $53 million, compared to $13 million a year ago.
Investors also seem to have misconstrued the shift in Affirm’s loan mix in recent months from high-fee instant loans where revenues were paid upfront to longer-term interest-bearing loans with potential to generate higher returns. The second model incurs credit expenses upfront, while generating steady revenues over a period of time, which hasn’t been well received by the markets so far.
Given the large-scale adoption of BNPL among consumers and the substantial benefits it stands to add for merchants, we can safely say that we’ve barely scratched the surface of a potential trillion dollar market. With exclusive partnerships with Amazon and Shopify providing a strong anchor to the company, it has a significant leg-up against competitors.
In hindsight, a $50 billion valuation may have been a little ambitious, but with the stock currently trading at 11 times sales and the business growing at triple digits we believe Affirm to be undervalued. This is a perfect opportunity for investors who missed out on Affirm’s dream run last year to get in on this new, disruptive business. Our Price Target of $200 is currently too high, so we are lowering it to $95, with the Sell Price of $110 lowered to $31.