Nu Holdings Stock: Finally Following Warren Buffett’s Lead (NYSE:NU)

Brazil holds a lot of promise for investors seeking exposure to emerging markets. The country’s population, large economy (Brazil is the 11th largest economy in the world), substantial unbanked population, and growing IT infrastructure are some of the reasons why I have always kept a close eye on Brazil. I invested in StoneCo Ltd. (STNE) to gain exposure to Brazil, especially the growing Fintech sector. Although my most recent investment in StoneCo has not gone according to plans – yet – I continue to look for opportunities in Brazil because of my long-term bullish stance on the country.

This brings me to Nu Holdings Ltd. (NYSE:NU), a fintech company that offers digital banking services in Latin America. Although I have closely followed the company for a couple of years, I did not invest in the company as I wanted to limit my exposure to Latin America at a time when I already had meaningful exposure to Brazil through StoneCo. In hindsight, it would have been better if I swapped my STNE shares for NU at the beginning of the year – NU stock is up 120% this year compared to the 15% gains registered by STNE stock.

Nu was founded in 2013 by David Vélez, Cristina Junqueira, and Edward Wible, with the vision of creating a more inclusive and transparent financial system. Nu Holdings operates under the brand name Nubank, which is one of the largest neobanks in the world, with over 80 million customers. Nu Holdings offers products such as credit cards, personal loans, savings accounts, insurance, and investments, all accessible through a mobile app. The company’s mission is to empower its customers to take control of their finances and live better lives.

The company has raised substantial investments from key players in the financial world. One of the most noteworthy chapters in Nubank’s story is its association with Warren Buffett’s Berkshire Hathaway (BRK.A). Nu Holdings is among Berkshire’s best-performing investments this year. The investment conglomerate demonstrated its confidence in the Brazilian fintech giant by investing both before and during its initial public offering in 2021. Berkshire Hathaway’s entry into Nubank’s journey is characterized by an initial investment of $500 million in June 2021. Later, as Nubank went public in December 2021, Berkshire Hathaway seized the opportunity to further strengthen its position by allocating an additional $250 million to this innovative Brazilian bank. As of June this year, Berkshire Hathaway held approximately 107 million shares of the digital lender, representing a 2% stake valued at $845 million.

After evaluating the prospects for Nu Holdings, I believe the company is very attractively valued today.

Wall Street Estimates Are Trending North

JPMorgan (JPM) and Morgan Stanley (MS) have expressed a strong bullish sentiment about Nu Holdings. Their optimism is grounded in a series of compelling factors, shedding light on why Nu Holdings is capturing the attention of investors and market observers alike.

Last September, JPMorgan upgraded Nu Holdings from a neutral rating to an overweight rating and assigned NU stock a price target of $9. The rationale behind this upgrade was rooted in their confidence in Nu’s robust long-term strategy and a strategic entry point created by recent share price corrections.

JPMorgan’s analysts cite key reasons supporting their positive view. First, a proprietary client survey revealed that Nu commands a staggering 27% principality in Brazil, signifying that approximately 1 in 4 Brazilians use Nu as their primary bank. Such high principality implies the potential for market share gains over multiple years, particularly as Nubank currently holds only a 0-14% share in most of the products it offers. This principality also translates to resilient credit quality, even in challenging economic conditions.

Furthermore, JPMorgan points to Nu’s substantial cost advantages compared to traditional incumbents, translating into higher returns and enhanced adaptability when dealing with regulatory fluctuations. This cost-efficient approach positions Nu Holdings favorably in the long run. The company’s strong performance is also evident in its second-quarter results. The company recorded an impressive 19% ROE. Nu Holdings has now secured its place as JPMorgan’s top pick among Brazilian banks.

The number of Nubank’s customers surged by an impressive 28% in the year ending June, totaling 84 million. Moreover, the company’s revenue soared by an impressive 61% to reach approximately $1.9 billion. The company’s story is not just about growth but about profitable growth. Nubank impressively transformed its financial performance from a $30 million net loss before going public to a $225 million net profit in Q2.

Exhibit 1: Customer growth

Morgan Stanley has also shown optimism surrounding Nu Holdings. The company recently issued a bullish report highlighting Nu’s unique potential to disrupt the Latin American financial sector. Morgan Stanley boldly predicts that by 2026, Nu Holdings could achieve a valuation of $100 billion – almost threefold growth from here.

I prefer investing in companies that enjoy positive earnings revisions as I believe such revisions will create market momentum for a stock. With Wall Street analysts increasingly turning bullish on the prospects for Nu, earnings revisions have trended higher in the recent past.

Exhibit 2: EPS revision trend

The company has also topped earnings estimates meaningfully in the last couple of quarters, which is another positive sign.

A Lucrative And Expansive Market

Beyond Nu Holdings’ unique strengths, there are promising prospects for the Latin American fintech sector. Latin America remains underpenetrated and underserved by traditional banks, offering a growing market for Nu Holdings to thrive. According to data from the International Monetary Fund, as of 2021, the Latin American region was home to more than 300 million users of digital payments, with over 30 million users embracing digital banking services. The concentration of this digital financial revolution is particularly prominent in countries like Brazil and Mexico, where these figures find their stronghold.

Nu Holdings, with its flagship digital bank Nubank, stands as one of the titans in this digital banking revolution. However, in terms of total assets, it’s essential to acknowledge that Nubank, although rapidly growing, is still relatively small compared to the traditional banking giants of Brazil. In 2022, Nubank’s total assets amounted to approximately $29.9 billion, contrasting with the colossal total assets of the largest Brazilian banks. To add some color, Itau Unibanco (ITUB) held $439 billion in assets in 2022. This disparity indicates the immense growth potential that still lies ahead for Nu Holdings in capturing a more significant market share with its innovative, tech-friendly solutions. But at the same time, Nu’s small scale also highlights how big banks can still disrupt the industry with the vast resources available to them.

Exhibit 3: Total assets of Nubank in Brazil (2015 – 2022)

In Brazil, Nu’s customer base exhibits a remarkable reach, exceeding 79.4 million as of Q2. This number accounts for a staggering 49% of the country’s adult population, propelling Nu to become the fourth-largest financial institution in terms of the number of customers, as per data from the Brazilian Central Bank. By July 2023, Nu further solidified its position by surpassing 85 million customers globally, with 80 million in Brazil alone.

The expansion story isn’t confined to Brazil alone. In Mexico, Nu’s customer base witnessed a robust 33% YoY growth in Q2, reaching 3.6 million customers. Similarly, in Colombia, the company serves around 700,000 customers, representing a substantial 133% increase compared to the previous year. With the launch of the digital savings account product in these markets, the growth trajectory in both countries is poised to accelerate.

Further, the company continues to diversify its product portfolio, ensuring a comprehensive suite of financial services. This includes credit cards, NuAccounts, and personal loans, serving approximately 37 million, 60 million, and 7 million active customers, respectively. Additionally, the company’s foray into insurance has resulted in over one million active policies. NuInvest, the digital investment platform, boasts more than 10 million active customers, firmly establishing its position as the largest digital investment platform in Latin America. NuCripto, with 1.3 million active customers, and the expansion of its small and medium-sized enterprise customer base which grew by 55% YoY to 3.1 million in Q2, showcase the company’s commitment to catering to diverse financial needs.

IMF reports reveal that a substantial portion of digital bank customers in Latin America comprises unbanked and underbanked consumers and small to medium-sized enterprises. This highlights the pivotal role that fintech companies like Nu Holdings play in addressing financial inclusion and expanding access to essential financial services.

Exhibit 4: Markets served by digital banks

Nu Holdings operates in a market that is primed for growth, and the company is aggressively expanding its product portfolio to capture this market opportunity. By providing a customer-first, technologically advanced experience, Nu strives to differentiate its approach from that of traditional financial institutions in the Latin American region, and I am confident that the company will enjoy competitive advantages resulting from this differentiated approach in the long term.

The Valuation Is Reasonable

Nu Holdings is yet to have a profitable year. However, on the back of a strong start to 2023, the company is expected to turn a profit this year. In the TTM period, the company has already turned a profit of just over $76 million. Nu Holdings is currently valued at a forward P/E of 40, which sounds rich for a traditional financial services company, but we are talking about a company that has grown its topline in triple digits in each of the last two fiscal years.

One of the key metrics that investors often scrutinize when evaluating a company’s health and growth potential is the Monthly Average Revenue per Active Customer (ARPAC). It provides key insights into how efficiently a company is monetizing its customer base and its ability to maintain profitability. In the case of Nu Holdings, the ARPAC figure offers some compelling reasons for optimism.

Nu Holdings’ ARPAC has been on an upward trajectory, a clear indicator that its strategy is effectively delivering results. During the second quarter of 2023, ARPAC reached a significant milestone by surpassing the $9 mark for the first time. This represents an impressive 18% increase compared to the previous year, underlining the company’s ability to consistently enhance the monetization potential of its user base.

Exhibit 5: ARPAC Growth

Nu Holdings’ impressive financial performance does not stop at ARPAC. The company’s engagement and principality metrics have been on an upward trajectory as well. Nu now serves as the primary banking relationship for over 58% of its monthly active customers who have been with the company for more than a year. Additionally, its activity rate has increased to 82.2% from 80.2% a year ago. These factors reflect the company’s ability to build long-lasting relationships with its customer base.

Nu Holdings has achieved a compound effect by expanding its customer base, increasing engagement, and enhancing its cross-selling and upselling capabilities. This synergy has resulted in consistent revenue growth, highlighting the company’s proficiency in monetizing its expanding customer base. Management, during the second-quarter earnings call, highlighted that close to 60% of Nu’s active customers have established Nu as their primary banking relationship, signifying that they channel more than 50% of their post-tax income through the platform each month. As customers increasingly rely on Nu as their primary bank, they tend to diversify their product usage, consequently contributing to incremental growth in monthly ARPAC.

Moreover, Nu Holdings has maintained an impressive level of efficiency in its operations. Despite the expansion, the Monthly Average Cost to Serve Per Active Customer has remained consistently low, standing at just $0.80, which is below the dollar level. This efficiency is further reflected in the company’s efficiency ratio, which stands at 35.4%. It positions Nu Holdings as one of the most efficient companies in Latin America, demonstrating its strong operating leverage.

Exhibit 6: Monthly Average Cost to Serve Per Active Customer

The company’s financial strength is evident in its balance sheet. Nu holds a substantial interest-earning portfolio of $6.3 billion, and its total deposits amount to a significant $18 billion, which is three times the IEP. This solid financial foundation provides Nu with the flexibility to invest in innovation and acquisitions, contributing to its long-term growth.

Exhibit 7: Liquidity position

Nu Holdings’ impressive ARPAC growth, coupled with its engagement and efficiency metrics, underscores the company’s capacity to not only achieve profitability but also sustain and enhance it. This, combined with its strong balance sheet, places Nu Holdings in a favorable position to continue its growth trajectory. For investors, these indicators bode well for the company’s prospects, making it an attractive option in the Latin American financial landscape.

Takeaway

Nu Holdings is moving in the right direction to disrupt the Latin American financial services sector. With the company ever-so-close to breaking through to profitability, I find NU stock attractively valued today. Investors in Nu, however, will have to embrace the political and monetary policy instability in Latin America, especially in Brazil. In any case, I expect NU stock to reward long-term investors handsomely for bearing these risks.