Affirm Stock: Bullish View Vs. Bearish View

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Elevator Pitch

I maintain my Hold rating for Affirm Holdings’ (NASDAQ:AFRM) stock.

My prior article discussing about AFRM’s year-to-date share price weakness was published earlier on April 29, 2022. This latest update outlines both the bull and bear arguments for Affirm, and I think that Affirm deserves a Hold rating as neither side holds the clear edge in this bull-bear debate.

Affirm Stock Basics

Before evaluating the positive and negative views about Affirm, one should spend time understanding the basics for AFRM, or what the company does. In my view, there are three key characteristics which define the company.

Firstly, Affirm is the outright leader in the US BNPL (Buy Now, Pay Later) market. According to a May 3, 2022 article published on Payments Dive which cited research from YipitData, AFRM boasts “a 40% market share, based on payments volume”, which is double that of the next largest player.

Secondly, AFRM offers a strong value proposition for both merchants and consumers. Affirm helps merchants to drive higher sales volumes without relying too heavily on discounts, as the merchants’ products come within the reach of more consumers with the availability of a wide range of financing options offered by AFRM. On the other hand, AFRM’s offerings are more appealing to consumers, as there aren’t other fees such as late payment charges for credit cards. Affirm provides consumers with a wide range of financing options as highlighted in the chart below.

Affirm’s Financing Options For Consumers

AFRM’s May 2022 Investor Presentation

Thirdly, Affirm’s proprietary risk management approach has delivered superior results. In its May 2022 investor presentation, AFRM emphasized that its risk management model allows it to either take on “more applications when compared to FICO’s (Fair Isaac Corporation) scoring methods through a superior ability to price risk” or achieve “lower risk outcomes than FICO scoring” with an equal number of applications.

The Key Elements Of AFRM’s Risk Management Model

AFRM’s May 2022 Investor Presentation

For the rest of the article, I will focus on Affirm’s bull and bear debates.

What Is AFRM’s Bullish View?

AFRM’s bullish view is that the company’s partnerships with the leading e-commerce players should drive an increase in BNPL volumes, and concerns over funding seem overdone.

Growing BNPL Share With Partners

AFRM’s merchant partners in aggregate account for over 60% of e-commerce sales in the US, as per the chart below. In contrast, BNPL’s penetration rate (of e-commerce) in the US is very low at 3%, as compared to approximately 10% in the Australian market. In other words, there is lots of room for Affirm to push for higher BNPL volumes by working more closely with its key merchant partners.

Affirm’s Merchant Partners

AFRM’s May 2022 Investor Presentation

Shopify (SHOP) is a good example of a successful partnership which still has a long growth runway ahead. On May 12, 2022, Affirm revealed that it has reached an agreement to have “a multi-year extension (till mid-2025) of its partnership in the U.S. with Shopify.” More importantly, AFRM also disclosed that “all eligible U.S. merchants offering (Shopify’s) Shop Pay Installments will have access to Affirm’s Adaptive Checkout”, a new product that “offers biweekly and monthly payment options side-by-side in a single integrated checkout.”

New offerings such as Adaptive Checkout hold the key to Affirm expanding its share of BNPL volumes with key partners and merchants. At its Q3 FY 2022 (YE June) earnings briefing on May 12, 2022, AFRM had referred to the introduction of new products like Adaptive Checkout as “little things that we’re doing with these large partners” which will be “a key avenue for growth.”

Funding Concerns Should Ease

Considering the challenging market environment now, it is natural for investors to be worried about Affirm’s ability to secure funding. But recent events and management commentary should help to put these concerns to rest to some degree.

In its Q3 FY 2022 financial results media release, AFRM highlighted that it “completed a $500 million asset-backed securitization” in early-May. Affirm also revealed at its Q3 FY 2022 investor call that it “added a new multi-year $500 million forward flow partnership with a large Midwest-based insurance company”, with expectations of further capital inflows via “scheduled commitment increases from existing partners and onboarding new partners.”

As it stands now, it appears that Affirm has the funding in place, close to $9 billion in funding capacity as of end-Q3 FY 2022, to support the company’s future growth.

What Is AFRM’s Bearish View?

The bearish view for AFRM is that the company is vulnerable in a weak economic environment, and that increased regulatory scrutiny will slow down the pace of adoption of BNPL among consumers.

Weak Economy Could Lead To Higher Credit Provisions

It is inevitable that asset quality will become worse in tandem with weaker economic growth. As per the chart presented below, AFRM’s delinquency rates have been rising since the beginning of fiscal 2022, which represented a reversal from the positive trend of declining delinquencies on a YoY basis for FY 2020 and FY 2021.

Affirm’s Delinquencies For The Past Few Years

AFRM’s Q3 FY 2022 Results Presentation

In terms of the outlook for future delinquencies, Affirm mentioned at its Q3 FY 2022 results call that it expects delinquency rates to “continue to track at or below the ’19 (FY 2019) levels.”

However, assuming that asset quality worsens in the future, Affirm might have to recognize higher credit loss provisions going forward. This in turn will be a drag on AFRM’s overall financial performance in the quarters ahead.

Regulatory Headwinds On The Horizon

In an earlier section of this article, I pointed to the fact that countries like Australia are ahead of the US in terms of BNPL penetration rates. As such, it is relevant to monitor the regulatory developments pertaining to BNPL in Australia, as it could serve as a preview of what is to come for the US BNPL market.

A recent July 12, 2022 Australian Financial Review article noted that Australia’s Assistant Treasurer Stephen Jones has stressed that BNPL “will be treated as credit” in the country, which should lay the path “for tighter regulation” which is expected to be implemented by the middle of the next year at the latest.

Given that there is uncertainty over what kind of regulations will be imposed for the BNPL market in the US and when these new rules will take place, the adoption rate of BNPL among merchants and consumers might be slower than what Affirm hopes for.

Is Affirm Stock A Buy, Sell, Or Hold?

I rate Affirm stock as a Hold. It is positive that BNPL penetration is low in the US vis-a-vis other countries. But new regulations for the sector are expected to be put in place in the foreseeable future, and this will slow the take-up rate for BNPL services worldwide and in the US as well. Separately, while Affirm’s funding availability is less of a concern now, AFRM’s asset quality might potentially take a hit if economic conditions continue to worsen. As such, I have a Neutral View for AFRM.

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