After reporting impressive results in Q1 customer growth, profitability, and a return on equity surpassing the country’s top three incumbent banks, the Brazilian fintech Nu Holdings (NYSE:NU) alleviated one of the market’s main concerns: its potentially stretched valuation. Thus, I am bullish on NU stock.
Nu Holdings emerged as an alternative to traditional banks’ credit cards. Its objective is to utilize technology to minimize bureaucracy and streamline access to credit and other banking services for the average Latin American consumer through an intuitive interface.
To highlight the extent of Nu Holdings’ customer base, the company has reached 99.3 million customers, with 92 million of them concentrated in Brazil alone, representing 54% of the adult population of Brazil. Furthermore, Nu has rapidly expanded into other Latin American countries, such as Mexico and Colombia.
The investment thesis for Nu Holdings is straightforward. The company holds a leading position in Latin America and is a profitable fintech company. There are still numerous cross-selling opportunities available through the Nubank app, and significant potential remains for expansion into other Latin American countries, notably Mexico. Additionally, there is considerable opportunity in Brazil with consigned credit and corporate accounts.
As Nu Holdings unifies quality and growth in a cyclical and mature industry in several developed countries, its stock is far from a bargain at first glance. The company trades at a price-to-earnings (P/E) ratio of ~45x and a price-to-book (P/B) ratio of 8.2x, which appear to be stretched multiples.
Even so, with the Brazilian fintech company delivering increasingly impressive numbers each quarter and considering future growth prospects against the current price, I believe there is room to adopt a bullish stance.
Nu Holdings’ Growth Formula
Nu Holdings continues its rapid and substantial growth trajectory, driven by a formula that combines active customers multiplied by average revenue per active user (ARPAC), subtracted by the cost to serve, resulting in significant earnings power. This is highlighted in the company’s investor presentation, as you can see below.
To illustrate Nu Holdings’ strategy, let’s delve into some key operational data highlighting the firm’s effective operational execution:
- Active Customers: Nu Holdings boasts a rapidly expanding customer base with a compound annual growth rate (CAGR) of 29%. This growth is particularly notable in early-stage penetration markets such as Mexico and Colombia.
- Increasing Revenue per Customer: Nu Holdings’ average revenue per active customer (ARPAC) has increased by 30% year-over-year, indicating robust monetization. This growth is particularly noteworthy, given that 1 in every 2.5 Brazilians holds an account with Nu Holdings’ Nubank.
- Low-Cost Operating Platform: Leveraging its entirely digital banking model, Nu Holdings maintains a remarkably low cost per customer, averaging 90 cents. This cost efficiency enables Nu Holdings to scale its platform rapidly and more efficiently than traditional banks.
Business Model Continues with Strong Operating Leverage
Nu Holdings has been posting increasingly robust numbers at virtually every operational and financial level each quarter, gradually addressing investor growth and quality concerns.
The most recent results (Q1 2024) showed strong growth in its financial metrics. Net income increased 167% from $141.8 million recorded in the same period last year. Adjusted net income for the quarter amounted to $442.7 million, compared to adjusted net income of $182.4 million in the first three months of 2023.
More surprising was the quarter’s annualized return on equity (ROE) of 23%, positioning the digital bank not only on par with but superior to its traditional peers, such as Itaú Unibanco (NYSE:ITUB) and Banco do Brasil (OTC:BDORY), both of which have ROEs of 21%.
According to the company’s CEO, David Vélez, these figures were achieved due to the fintech’s business model, which is driven by revenue expansion and a stable cost per client.
The financial services platform’s revenue rose 64% year-over-year on a currency-neutral basis to $2.7 billion from January to March. The average monthly cost of service per active customer in the quarter remained stable at 90 cents, demonstrating the strong operating leverage of Nu Holdings’ business model.
On this basis, Nu Holdings also increased its loan portfolio in Q1 to $19.6 billion compared to $12.8 billion in the first quarter of last year.
To complement Nu Holdings’s strong results, the company addressed one of its main risks: delinquency. Non-performing loans (NPL) over 90 days were reported at 6.3%, while those between 15 and 90 days stood at 5%, which aligns with expectations and historical seasonality, according to the company.
Stretched Valuation, But Justifiable
When it comes to valuation, despite its impressive efficiency and rapid growth, Nu Holdings doesn’t come cheap. Its price-to-book (P/B) ratio, standing at 8.2x, is notably higher than the banking sector average of 1.05x. This ratio is particularly relevant for banks, as it offers insight into how the market values their assets relative to their reported book value.
Nonetheless, despite the stock trading at a non-GAAP P/E (price-to-earnings) ratio of 45x, the valuation can be justified. When dividing the P/E ratio by the EPS long-term growth consensus estimate for the next 12 months, Nu Holdings trades at a PEG (price/earnings to growth) ratio of 0.57x (a figure of 1.0x or lower is generally seen as undervalued).
Factoring in accelerated growth estimates, it could be argued that Nu Holdings may be undervalued, given its growth trajectory.
Is NU Stock a Buy, According to Analysts?
According to the consensus of analysts who have provided forecasts for the next 12 months, the stock comes in as a Strong Buy, and the average price target for Nu Holdings stock is $13.14 per share. This implies upside potential of 13.8%.
After earnings, Tito Labarta, an analyst from Goldman Sachs (NYSE:GS), maintained a positive outlook on Nu Holdings, emphasizing the company’s strong growth and profitability prospects. He reaffirmed a price target of $15 and a Buy rating.
Labarta noted that the recent deterioration in asset quality was mainly seasonal, with provisions in Q1 2024 returning to normal levels after lower provisions in Q4 2023 due to significant recoveries. He highlights that personal loan growth is outpacing credit card growth. The 90bps increase in the early NPL ratio is also seen as a typical seasonal rise.
The Bottom Line
Nu Holdings is a fintech that combines the business fundamentals of a consolidated company with the early stages of growth in Latin American countries such as Mexico and Colombia. It’s no surprise that even Warren Buffett’s Berkshire Hathaway (NYSE:BRK.B) has taken notice and included it in its portfolio.
The Q1 results again showed robust operating leverage, with the fintech company expanding its customer base and monetizing them rapidly while maintaining stable delinquency levels and sustaining very low costs per customer.
This recipe for growth looks very solid. There is also still an opportunity to monetize Brazilian customers with numerous cross-selling opportunities and opportunities in consignated credit and corporate accounts.
As these developments materialize, the current valuation based on the market’s expectation for Nu, which is no bargain, should make more sense. That said, my outlook on Nu Holdings is bullish. I believe there are still great growth opportunities that the market has yet to price.
