Upstart Holdings, Inc. — Q3 2021 Form 10-Q
Reporting period: Three and nine months ended September 30, 2021; filed November 12, 2021. Upstart provides an AI-based consumer-loan origination platform to bank partners and earns platform, referral and servicing fees. Financial amounts below are in U.S. dollars.
Financial performance
| Metric | Q3 2021 | Q3 2020 | Nine months 2021 | Nine months 2020 |
|---|---|---|---|---|
| Total revenue | $228.5 million | $65.4 million | $543.7 million | $146.7 million |
| Net income attributable to common stockholders | $29.1 million | $9.7 million | $76.5 million | $5.0 million |
| Operating income | $28.6 million | $12.2 million | $80.5 million | $1.4 million |
| Adjusted EBITDA (non-GAAP) | $59.1 million | $15.5 million | $140.9 million | $16.0 million |
| Operating cash flow | Not presented quarterly | Not presented quarterly | $179.5 million | $(52.8) million |
- Q3 basic and diluted GAAP EPS were $0.37 and $0.30. Nine-month EPS was $1.00 basic and $0.81 diluted.
- Q3 adjusted EBITDA margin was 26%, versus 24%; nine-month margin was 26%, versus 11%. Contribution margin, a non-GAAP measure, was 46% in Q3 versus 54%, and 48% for nine months versus 44%.
- Nine-month investing cash flow was $(124.1) million and financing cash flow was $805.0 million. Cash was $1.041 billion and restricted cash $130.3 million at September 30; together, $1.172 billion.
- Total borrowings were $649.2 million on the balance sheet; principal outstanding was $664.4 million before unamortized debt discount. This included $661.3 million of 0.25% convertible notes due 2026. Management said no aggregate debt was due within 12 months.
Business trends and changes versus prior periods
- Q3 transaction volume was $3.13 billion and 362,780 loans, up 244% and 348%, respectively, year over year. Nine-month loan count was 819,386, up 363%.
- Fee revenue rose 235% in Q3 and 256% for nine months, led by platform and referral fees. Management attributed growth to higher loan volume and service pricing; servicing-fee growth also reflected a larger serviced-loan portfolio.
- Q3 revenue growth outpaced operating income growth. Sales and marketing increased to $93.3 million from $23.7 million, including higher advertising and traffic-acquisition costs. Stock-based compensation rose to $20.3 million from $2.6 million.
- Q3 reported conversion rate was 23.0%, compared with 15.2% a year earlier. Upstart changed its calculation in Q3 to exclude estimated fraudulent inquiries; using the old method, Q3 2021 conversion was 13.5%. Loans fully automated were 67%, compared with 69%.
- Revenue concentration remained material: two customers represented 56% and 28% of Q3 revenue; for the nine months they represented 59% and 25%. Cross River Bank generated 58% of nine-month loan count and 59% of revenue; another bank partner represented 34% of loan count and 25% of revenue.
Outlook, risks and unusual items
- No specific numerical revenue or earnings guidance is provided in the filing. Management expects cash on hand and operating cash flow to cover liquidity needs for at least 12 months, while noting that future capital needs depend on growth, loan purchases, working capital and investment spending.
- Management expects continued spending on AI models, marketing, product development and growth. It also notes that first-quarter loan demand is generally seasonal and lower. The filing cautions that historical growth may not continue.
- Management disclosed a coordinated fraud attack and temporary increase in fraudulent activity during Q3. It said the event did not significantly affect financial results, but it prompted model and metric changes and could affect conversion rates.
- COVID-19-related hardship programs had peaked at approximately 5.6% of borrowers; about 95% of affected borrowers had exited those programs and resumed payments by September 30. Management said pandemic effects and future economic conditions remain uncertain, and that the models have not been extensively tested in a recession without significant government assistance.
- Key risks include reliance on a small number of bank partners, customers and loan aggregators; continued access to institutional loan funding and securitization markets; credit-cycle and model-performance uncertainty; fraud and cybersecurity; and evolving fair-lending, AI, licensing, usury and bank-partnership regulation. The CFPB no-action letter expires November 30, 2023, unless terminated earlier.
- The company recorded $20.6 million of nine-month net fair-value and other adjustments, contributing to interest income and fair-value revenue of $29.9 million. These measurements use significant unobservable inputs. Upstart also acquired Prodigy for approximately $89 million and made a $40 million non-marketable equity investment.
- Loan purchase commitments were $88.8 million. The stated maximum potential balances subject to loan repurchase and indemnification obligations were $10.3 billion; recorded contingent liabilities were immaterial. No loss contingency was recorded for ordinary-course legal proceedings.
- Upstart’s disclosure controls were assessed as effective at quarter-end, with no material change in internal control reported during the quarter. The company expected to lose emerging-growth-company status at year-end 2021.
Important facts for investors to verify
- Whether revenue and loan-volume growth can continue without further deterioration in contribution margin or higher customer-acquisition costs.
- How much revenue and loan volume depend on the largest two customers, Cross River Bank, the other major bank partner and Credit Karma traffic.
- Whether loan performance, fraud losses and model accuracy remain resilient as economic conditions and borrower credit quality change; review the conversion-rate methodology change when comparing periods.
- Whether institutional funding, whole-loan sales and securitization capacity remain available on acceptable terms, and how much exposure the company has to loan purchases and repurchase obligations.
- The effects of convertible-note dilution or cash settlement, future operating-lease commitments, and the transition from emerging-growth-company reporting requirements.
- Any regulatory developments involving fair lending and AI, bank-partnership or “true lender” challenges, state rate caps, licensing, and the CFPB no-action letter.
Adjusted EBITDA, contribution profit and contribution margin are non-GAAP measures and should be considered alongside, not instead of, GAAP results.