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Have you capitulated yet? Seems markets get worse and worse and worse. One stock which we started buying heavily when it dipped under $7 was SoFi Technologies (NASDAQ:SOFI). Here we are down $2 per share from that level, and now under $5. Much of this is fear driven, fear of the unknown. What unknowns? Well, how bad will the recession get? How hard (or soft) will the landing be? Are we in a recession now (according to GDP data we are and have been)? When will markets bottom? Will inflation data come down now that the Fed is acting? What impact will there be on earnings? These are just the up and front questions on investors minds. The action has been simply disgusting, but we are trying to look ahead. As we come into mid-October, this is really an important time for markets. New inflation data will be released this week and that could be a massive catalyst. This is because The Fed is going to raise rates, but the pace of hikes could slow if CPI data does appear to be on the decline. As stocks get crushed, keep in mind, the Fed does not care. The market is not their responsibility (though they also are not looking to induce turmoil). They are tasked with price stability. Even if it crushes stocks, or even causes unemployment to spike, and businesses to feel pressure, their goal is reining in prices and stopping runaway inflation. The Fed wants inflation down. So far, we have not seen much disinflation in the economic reports. What we do know is that the market action has been simply disgusting. It hurts. We get it. But other than those who have been short most of the market, everyone is losing. You can offset losses through hedging, something we teach our members how to do, but overall, it’s just been a very painful year, and a very painful last few weeks. We believe that the Fed’s actions are starting to weigh, and that we will see signs of this on Q3 earnings. And that is what we are going to discuss in this column.
The Q2 headline results
When the company reported its second quarter, SoFi top line growth accelerated and the company actually saw record adjusted net revenue of $356 million. Folks, this was up a whopping 500% year-over-year from the same prior-year period. This also was well above the high end of management’s guidance. Further, these results were good for a bit of a beat versus consensus estimates. One number we love to watch here is the adjusted EBITDA. Well the adjusted EBITDA of $20 million also was at the very high end of expectations, and this was the eighth consecutive quarter of EBITDA growth.
Q3 results headline results forecast
We all know rates have been hiked, and that there is fear these higher rates will be slowing demand. As such, we will be looking to see if loan growth demand slowed as a result of so-called ‘rate shock’ for borrowers. We will also be looking to see if inflationary pressures, which have not abated, are also leading to reduced demand or ability to repay loans.
What we definitely know is that housing data is showing that sectors is weak. We know from some recent earnings that the car market is getting weak. And obviously, the disgusting action has been led by the fact that rates for all loans have jumped.
Basically, we want to see if higher rates and a marginally higher cost of funds lead to better margins. We believe that based on Q2 trends in conjunction with management forecasts, there may be some slowing in demand but loans may still grow heavily, just at a lower rate. We think that we could see a top line of $387-$400 million. This takes into account a reduced growth rate in new loans of 10-15% compared to Q2. Now, if we do see the margins expand, it may help EBITDA in our opinion, provided expenses are not out of control, but we think the company still loses money on a per share basis, but may approach breakeven. Depending on where these expenses land, a loss of $0.10 to $0.04 is where we are targeting, or $0.07 at midpoint. We will also be looking for commentary on market share which we believe the company continues to take more of. SoFi enjoys strong margins on its loans, and lending rates going higher helps margins per loan. Rates going up should improve margins, especially when you consider the company has its bank charter and can internally fund now. If there is strong guidance on both revenue and adjusted EBITDA, we think you see a rally. Let us discuss more the input metrics of interest.
Q3 loans and margins expectations
We expect loan growth despite the continued extension of the student loan repayment moratorium into the end of the year. While the moratorium has been extended through December 2022, recall that management has assumed it will be extended all year for its 2022 guidance. quite prescient. Back in Q2 growth accelerated across all three of the reporting segments. There was strong personal loan originations. In fact this was a record of $2.5 billion of loans, up 91% from last year. That said, margins were mixed in lending. The lending business saw $142 million of profit on 57% margins. These margins were up from 52% margins a year ago. There remained strong lending demand in Q2, but we think we might start to see some cracks in Q3. Lending products as a whole were up 22% in Q2. Overall, we expect growth in the lending products of 20% 15-20% from last year.
For Q3, we see lighter demand overall in terms of the rate of growth, but expect dollar volume from a year ago to be up at least 35%, and we are anticipating margins to come in at 54%-56%. Less than this range would be a surprise given the cost of funding relative to the prevailing lending rates. We will closely watch this.
Expect to see the tech platform show growth in Q3
Both the Galileo platform and the Technysis platform have been creating synergies this year. All told, the tech platform is growing and is a great source of future revenues. Q2 revenue of $84 million was up 85% from last year. And this was also up $23 million from just Q1. We anticipate a similar or higher rate of growth in Q3 year-over-year. There is simply great cost saving synergies. By purchasing this cloud based company, SoFi is creating new fintech products that are attracting and retaining customers. Make no mistake, there has been a huge initial investment and that was pressuring margins, but it will result in money saved. We think in coming quarters margins will expand as the synergies combined with Galileo, will fuel revenue growth.
Now in Q2, Galileo saw a 39% year-over-year increase revenue. The company has over 117 million accounts. We see new accounts over 120 million after Q3. In Q2, profit was $22 million on 26% margins. This was down from a year ago, which had 34% margins, and down from 30% in the sequential quarter, which weighed some on earnings potential.
As we look ahead, we see margins bottoming out this year and then increasing as cost savings and synergies align. We are looking for margins of 27-29% here, and anything above this would be quite bullish in our opinion.
In Q3, Financial services losses to continue
So in Q2, the financial services segment registered $30.4 million of revenue . Look, these financial services revenues were still growing, with 20% sequential growth from Q1, and 78% growth from last year. For Q3, we are expecting anemic revenue growth in the single digits here as market conditions have slowed. We believe that SoFi Invest and SoFi Money products both have been very successful. Back in Q2, the company SoFi grew total Financial Services products by approximately 2.7 million, which doubled year-over-year, and now there are nearly 5.4 million products. We think products approach 6 million in Q3. One of the reasons we see SoFi Money growing is the strong APY being offered for customers to put their savings with SoFi. However, we expect continued sharp losses here as these products continue to ramp up. This segment in Q2 saw a loss of $53.7 million stemming from credit card losses as well as building up their current expected credit loss reserves. We expect losses in Q3 as the company continues to grow its credit card business versus and also expands credit loss reserves. Banks are expected to ramp up reserves, and SoFi will too.
The stock could move sharply after Q3 earnings
The stock always moves with a lot of volume on earnings. Couple this with the fact that the short interest is quite high, around 13%. If we see better than expected results, or some really good guidance, we could get a short covering rally. The stock is largely oversold as well. On the flip side, if the company loses a ton of money per share, more than expected or guides much lower, we could see shares plunge. And believe it or not, but based on performance, we are still overvalued on most traditional metrics. The stock is extremely expensive relative to a bank, although valuation compared to technology stocks, particularly innovative, high revenue growth type stocks, is much more reasonable. One negative catalyst we will continue to monitor, is stock based compensation. We will also focus on cash flow metrics and adjusted EBITDA when the company reports, both of which have been incredibly positive over the last few quarters.
Final thoughts
We think the stock could move sharply after the Q3 report in a few weeks. Long-term investors can get some insurance through put contracts. If you want to buy more, consider selling some puts to either lower your cost basis, or collect some income. We expect strong volatility on the report, and a double-digit move in the share price. All things considered, we are bullish here near all-time lows.
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