NCI: SoFi: House of Cards OR Future of Finance?

Ram Ahluwalia & Giuliano Bologna

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Episode Description

Tune in to this exciting episode of Non Consensus Investing. We dive into the SoFi performance with Giuliano Bologna, Managing Director at Compass Point Research & Trading. We'll unpack the bull and bear cases for SoFi, and explore alternative exciting fintech plays on Giuliano's radar. Don't miss this discussion on the dynamic fintech landscape.

Episode Transcript

NCI SoFi House of Cards OR Future of Finance.mp4

Speaker 1 [00:00:00] All right. Welcome, Giuliano. Really pleased to have you here to talk about, investing. And, you know, you cover a lot of names. Not just suffice. We're going to talk about SoFi specifically, as well as some long ideas which I thought were really original. Really enjoy getting to that. And then your life as an analyst. So I, have a special other guest with me, which is my SoFi shirt. You can see that. 

Speaker 2 [00:00:25] That's great. I don't know one of those. We'll have to, you know, at some point, I'll have to make the investment there. Well. 

Speaker 1 [00:00:30] It's it's a tad cheaper than the price of SoFi stock right now, by the way. So. So it's on sale. This is pricing. Actually, this might be worth more than. So if I look, by the way, full disclosure, like I'm embarrassed. And so if everyone knows that I'm going to do my best to make the bull case for SoFi, and, engage in a Socratic dialog with Giuliano Giuliano as a pro is going to introduce himself now and talk about Compass Point. I know quite a few hedge funds use Compass Point Research. So even if you guys aren't familiar with them, you know you should tune in and pay attention. So with that, said, Giuliano, you want to introduce yourself? 

Speaker 2 [00:01:10] Yeah. Thank you so much for having me around. You know, it's great to have productive dialog and kind of help get the thesis out there and obviously have a, an intellectually honest debate and, engaging discussion about, you know, so financially, some other names on the long side. You know, just to give you a little bit of background, you know, I'm a senior research analyst and managing director at, Compass Point. I specifically, my core focus is, you know, especially finance, which is kind of a consumer finance mortgage with a few fintech oriented names in there. And I also cover a handful of special situations type names. You know, just over the cliff notes on Compass Point. And then I'll expand a bit more on my background. Compass point is a full service investment bank that, you know, was founded in 2007, by Scott Dreier, who used to be at FBR before that. And if you think about, the firm, our primary focus historically has been on financial services and related sectors and policy research. And from. So that's to give you a quick background on where we are. You obviously have a decent policy focus since we're, based in Washington, DC, and that adds a lot of value to, the fundamental discussion when you can, you know, overlay interesting policy views. 

Speaker 1 [00:02:15] I've always enjoyed research. You know, there's been great alumni like Michael Tarkin, who's gone on to the hedge fund land, and Isaac Bell, Penske on the policy side. So it's institution I follow for for quite a while. By the way, I would encourage folks that have questions. They can type them in and come in here and we'll do our best. I think look, we'll do this in three parts. Start with so five long ideas in the life of an analyst. And what is it? What's your life look like? What do you look for in businesses and your investing philosophy there? So I think go ahead. 

Speaker 2 [00:02:44] And what I can do is I can give you a little background on myself, which I probably feed into that at that point. So, I mean, I've been outside analysts since two or so, since I was sort of associate since 2011. I worked at a firm called Colin Stewart for just under a year, supporting, you know, a pay TV media analyst. Then I joined, BCG and in 2012, and I worked at first with two different teams. One was more of a PR, a special situations team that did, you know anything and everything. It was things that you wouldn't follow, the things that were complicated, like junior energy before it was, you know, even, yeah, an LNG export business or sorry, an export business was just a red gas business at that point, applying for permits for a. 

Speaker 1 [00:03:23] Gas. 

Speaker 2 [00:03:24] Business. Yeah. So back then it was anything and everything. Oh, this was undercover. Complicated. Yeah. We looked at the Caesars bankruptcy, American Airlines bankruptcy, and a handful situations like that. Then we had a there's a financial services team that I supported that where we primarily focused on what I'd say companies name situations that had a post financial crisis hangover. So it was aimed at coming out of bankruptcy, sitting out of bankruptcy, you know, looking at a lot of the monoline insurers that had a lot of legacy rmbs litigation. So I have a bit of a hybrid background where it's, you know, credit equity and and that kind of flows into my work today where I focus on a lot of, you know, what I said, what I'd probably call specialty finance, which has more value than growth in general, but there's obviously some growth, I think. And and like I said, obviously fits into that growth year category. So it's mostly consumer finance mortgage and some and some fintech related names. But I also veer steer a little bit further off every now and again and look for special situations because I'm more, you know, more than willing to, you know, roll up my sleeves and dig into a credit situation or something that is very complicated where everyone else is running away. And that's usually where you find a lot of the opportunity. So complexity is often my friend. And what, you know makes things worse than. 

Speaker 1 [00:04:32] What we have that I can. We both like complex. And I was going through your reports and analysis and, you know, your tolerance for complexity is higher than most. And look, so far as accounting requires a PhD, or, you know, so we're going to get through some of that. Look, let me start with the bull case for a. So if I look so far as the future of finance banks are going digital, banks are shutting down bank branches. We live in our mobile phone. They've got 3 million members across the United States. They're sponsoring a stadium, and FTX did that, too. But this time it's going to work. And, look, people are raving about SoFi online. People wake up and they're cheering for SoFi, and, the Noto want to, you know, noto want to. West point management's always delivered. They've always hit their numbers. And SoFi, after three years and having acquired a bank charter is now got profitable. So you know they're going from 0 to $0.60 earnings per share. And you know, the opportunity ahead of them is tremendous. They've got tech nieces, which they acquired from Latin America. And Chris Laporte, the CFO, share that they intend to sell this to large banks or regional banks, which makes this a real tech platform play and deserves a tech premium. And also, you know, the mortgage market, their penetration, the mortgage market's very small. So it looks like they could take on quicken here. I mean, it seems to me like growth, growth lights out. What what an opportunity ahead. You know, where am I going wrong on this, Julianna? 

Speaker 2 [00:06:11] But I think what's important. Take a step back and you know, and be honest. I mean, what's so far has done is impressive in many ways. And there are some nuances, too, that I think are relevant. I obviously have a bigger issue. You know, there's already a $4 price target, so I think I can probably inform my perspective in my view on the stock. But when you take a step back, you know, you have to think about what so far is today, you know, and what they're becoming so far as a bank. So that's not something that we can lose focus of because, you know, so if I is doing a few things that are unconventional, what I mean by that is specifically what you highlighted. You know, they have an emerging technology segment that is growing, you know, close to 20% on the on the top line. They have Galileo in tech pieces. Those are very impressive businesses. Those obviously are, you know, interesting contributors to both growth and margin and, you know, earnings power over time and their businesses that, you know, the way that I would describe them or capital Light or really don't necessarily have capital in the sense that they probably don't have any tangible book value or any material tangible, I'll tell you. But then again, you know, it's important to look at that and say, you know, and take a step back in my experience and, you know, looking across around the market, you know, over the past decade plus, you know, so far is not the only financial institution or what I would call balance sheet intensive or capital intensive, financial institution that's had a segment or a non, or a non-financial business or is affiliated with their platform, and you don't usually buy those independently. You know, the way that I typically look at it is that you you think about the contribution from that and that is, you know, significantly creative for your return on capital and your earnings and that obviously, you know, should flow into your your valuation from price to books. Other questions. What books are you depending on how you're looking at it. So I think that's one important point. You know, then if you look at what they've done, it's been very impressive. You know, they've grown their balance sheet from a de minimis amount to this kind of growth space as including intangibles and goodwill. But you know, their balance sheet, they now have a, you know, just over $31 billion in assets. But if you go back to the end of 2022 or even, you know, sorry, the beginning of 21, you know, they had a $9.2 billion asset balance sheet. So they've effectively tripled the balance sheet in a matter of a few years. And they're they've done a lot of interesting things. On the personal lending side on the student lending side, they've grown a lot. But that in and of itself, growth is not everything. And the accounting is obviously something that makes the, the appearance of so far as numbers and whatsoever reports, you know, difficult to compare. And that's obviously something we'll get into is that there are some alarming trends, you know, with. With. You know what? In a sense, what the optics look like versus what the underlying numbers and data is showing us, relate to their performance. And I, to get into anything specific about you brought a mortgage and a few other topics there, but yeah. Right. 

Speaker 1 [00:08:54] Sure. Let's do let's start the high level. So silicon analyst consensus estimates are going up. They're now GAAP profitable. So why can't we just slap a multiple on that earnings per share, and give them a premium for the technology story where they're selling, you know, tech to banks and payments to different players? 

Speaker 2 [00:09:17] I mean, so I'm a rough analogy I would use is if you if you were to take a slight step back and look at so far in terms of we're so close to our different valuation perspective, the stock is it you know, call it $6.50 is what I have it on my screen on a price to tangible book tell you you know. So if I was trading at about 1.68 and 1.7 for a rounding stocks, I was going to move intraday. Whereas you know their primary peer is trading, it is their 0.78 times tangible book value. So they're effectively trading 2.2 times the relative valuation versus let me quote for example, Lending Club does not have that business. But you know, then the question is, is that, you know, is trading 120% more expensive reasonable. And then that brings us into a different discussion. Is the number that we're even applying. Yeah. The tangible book value number, the right number to look at because of the differences in accounting that obviously shift, you know, the appearance and, you know, the way the numbers would appear. 

Speaker 1 [00:10:09] There are two stories there, right? And one is, hey, look, this is a bank. Let's use tangible book value and let's compare to peers. And what you're saying is more expensive to peers, by the way, it's more expensive than even banks like JP Morgan. And which have, you know, strong balance sheet high ROE and growth. But the other side is well maybe price a tangible book is the wrong metric because this is a business that's going to enter Hypergrowth. And therefore we should give this business a high for PE ratio. 

Speaker 2 [00:10:39] So I think that's I think there's a part of that that's obviously reasonable. And it's important to look at things in every in every way. If you're going to stress test, you know, in my case it never ceases. But I think if we took a step back, I think the the underlying question in that would be if the bank, the core bank, excluding the tech business, is worth roughly the same as Lending Club, for example, it, you know, point eight of ten. I'll tell you. You know, is the, you know, it is the, is the rest of the business worth, you know, 1.4 times tangible book value, which is already what's in court. You know, if you were to separate them completely and try to completely pass them apart and, you know, that's that brings up a very, you know, very interesting question. But that in some ways, if you look at it through that lens, you know, that would be effectively making the argument that so far as tech businesses are worth, you know, $5.7 billion. 

Speaker 1 [00:11:31] Right. So what you're saying is what. 

Speaker 2 [00:11:34] Would be a very, you know, which which would be a lot of value. And that's, you know, in some ways, if you look at it through that same lens, you've put a tremendous amount of value in those businesses. And I think we can debate whether or not they're worth, you know. You know a number in the high $5 billion range. 

Speaker 1 [00:11:48] Right, right. And what you just said, there's hey, look, let's take off some of a parts approach. Let's put tech in one bucket. Let's put the classic banking and lending business in another bucket. And what you're saying is the implied value tech business has to be 5 billion in change given the current valuation. By the way, there's another stock that's publicly traded. I don't own it. But I look at it not the CEO admire the business. It's called Encino Ticker Nccn. Oh, it's got a Ford P, 46, and it has a market cap of $3.6 billion. And they have real revenue and they're growing quickly. So you've got to believe that the SoFi tech business is worth more than Encino, which has demonstrated product market fit and has sold into banks large and small. 

Speaker 2 [00:12:32] Yeah. I think when you take a step back, I think it's, you know, what does make things a bit more complicated is when you have a business as part of a larger entity, like a bank. That's a and the case so far is that there is, you know, what they report is kind of, you know, directly attributable expenses are kind of direct business expenses. So they give you a contribution, profit, which is, you know, effectively a pretax number if you don't get it, if you put it through that lens. But what we also don't necessarily know is if you took my model, for example, or my assets, I mean, I have 100 and, you know, just over 138 million notes, contribution profit this year for, the tech platform, you know, but if you if you were to take that a step further, you know, that's not including a lot of stock based compensation. That's at the corporate level that. Well, that's really related to, this platform. You also have, you know, in my model 250 plus million of employee expenses, you have a lot of, you know, other corporate unallocated expenses. So you have, you know, many hundreds of millions of dollars of expenses that are, you know, at at the corporate level. And, you know, I think the underlying question here is what is the actual underlying profitability of the tech segment? If you were to run it as a standalone business and not just a division within the company, so that money is the waters. But, you know, if you looked at, you know, what's kind of implied, if you took the current numbers, it would imply, you know, at 5.7 billion, you know, that it's rated over 40 times, you know, pretax income, based on my estimate for this year. 

Speaker 1 [00:13:51] Yeah. You know, what's interesting about SoFi is like the balance sheet in the cash flow statement and like the footnotes that are required to really understand what's happening, you know, with the business, like the primary driver of growth for SoFi has been the personal loan business. And they've grown that to, what, like a $15 billion size. And they start to curtail the growth of that, in part due to, conservative economic projections around the consumer. How how should we think about the valuation of that personal loan book and how does it contribute to so far as market cap? And I guess one other data point there is, you know, they we started to see some negative fair value adjustments. And like there's a lot of accounting terminology in all of this which can make this a subject that is difficult to unpack and explain. So let me talk about the personal loans and the valuation and how fair value fits into this. 

Speaker 2 [00:14:48] I think what we're hearing out here and things, if you look at the business, the primary source of growth and the primary source of both revenue and profitability growth and so forth by, you know, leaps and bounds is the personal lending side of the business. And so that's obviously relevant when you look at that. There's no I mean they originated 13.8 billion last year. I have originated, you know, down 14.25 billion this year from from in my model. If you look at the principal balance on balance sheet, they have 4.3 billion. And they have those marked, you know, at a total carrying value of 15, 15.06 billion. 

Speaker 1 [00:15:22] So that's how they would say that's what it's more that and these are unsecured personal loans. 

Speaker 2 [00:15:28] These are unsecured loans. If you took a step back you know I think the point that you're kind of starting to move towards is, you know, the topic of, you know, making the fair value election, fair value accounting. So if I marked has their personal loan portfolio as of the end of the first quarter, marked at 104.24% of an unpaid principal balance. So effectively they have a $608 million, cumulative fair value adjustment that's based on, you know, the using the fair value election and then running a DCF model to divide the loans at fair value. I'm more than happy to dig into that topic and provide some of the nuances there. You know, if that's helpful. But you let me know where you want to go. So I don't want to talk about FCA. 

Speaker 1 [00:16:06] So, you know, how should one value a personal loan book? You know, ultimately, if you're going to value something, you want to know what the cash flow stream of those assets are, and that cash flow stream is going to be the interest income, or they call it the coupon less the cost of servicing should be plus small minus, expected defaults. That gives you the free cash flow. And then you discount those cash flows for each period in time in the future by an appropriate discount rate. Is that the right way to think about this?