Affirm Holdings, Inc.

Moat: 2/5

Understandability: 4/5

Balance Sheet Health: 2/5

Affirm is a financial technology company that provides installment payment solutions for consumers, enabling them to buy products and services and pay for them over time.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Business Overview and Revenue Distribution Affirm operates a Buy Now, Pay Later (BNPL) platform, facilitating point-of-sale financing for consumers across diverse industries, including retail, travel, and electronics. The company generates revenue primarily through:

  1. Merchant Fees: The largest component of revenue, these are fees charged to merchants for each transaction facilitated through Affirm’s platform.
  2. Interest Income: Earned on the loans held by Affirm, interest income is derived from consumer loans, and varies based on the loan balances and duration.
  3. Virtual Card Network Income: Revenue derived from transactions made with virtual cards issued by Affirm.

Trends in the BNPL Industry The BNPL sector has seen substantial growth, fueled by changing consumer preferences and the rise of e-commerce, however, the industry is maturing and facing increasing competition, including that of major banks and fintech firms directly offering installment loans, making brand differentiation increasingly difficult. The industry is facing pressure as some consumers struggle to repay debt, leading to higher delinquency rates. This, in turn, is increasing credit risk to providers and is having an impact on consumer discretionary spending due to high interest rates and inflation. There is also growing regulatory scrutiny regarding consumer protection, transparent disclosures, and the risk associated with unregulated BNPL lending.

What Makes Affirm Different

Affirm distinguishes itself from other BNPL providers by:

  • Transparency and Consumer-Centric Approach: Affirm claims to provide clear, easy-to-understand payment options, without hidden or deferred interest charges, late fees, or revolving debt. It presents all loan terms upfront, which increases trust and avoids confusion amongst consumers.
  • Direct Partnerships and Technology Integration: The platform allows direct integration with retailer’s platforms and payment systems, providing a smoother customer payment experience, increasing conversion rates for merchants and offering consumers easy finance solutions.
  • Focus on Larger Purchases and Higher-Quality Retailers: Unlike some BNPL providers focusing on small purchases, Affirm targets larger purchases such as furniture, electronics, and travel, and is trying to build a network of large retailers (e.g. Amazon, Walmart).
  • Emphasis on Responsible Lending: The company emphasizes that responsible lending is the core of its strategy, using robust underwriting procedures to give consumers a realistic view of their ability to pay, and avoiding overextending them to potentially unmanageable amounts of debt.

Financial Analysis

Affirm’s latest financial statements, included in the provided documents from December 2021 through September 2023 indicate:

  • Revenue: Shows significant yearly fluctuations and volatility in reported metrics but generally shows large revenue growth over the last 3 years (2021 through 2023).
  • Operating expenses: Have increased faster than revenue, particularly with regard to sales & marketing, technology, and provision for credit losses, thereby producing a substantial net loss.
  • Net income: Net losses have ballooned over the past 3 years from ~-$630 million in 2021 to ~-$879 million in 2023. While this is common with high-growth companies, losses of this size are alarming.
  • Assets: Total assets have increased over the past 3 years, mainly driven by a large increase in loans held for sale.
  • Liabilities: Total liabilities have increased, primarily due to increased amounts of senior and unsecured funding obligations, and an increased allowance for credit losses.

Key Financial Metrics and Analysis:

  • Revenue Growth: Although revenue is still growing at a reasonably high pace, the revenue growth rate is significantly slowing down. Specifically, looking at the latest reports from 2024 (ending Sept 30th), we can see that the revenue growth is slowing to the low 20s in percentage, down from over 50% in 2022.
  • Gross Merchandise Volume (GMV): GMV, the total value of transactions on Affirm’s platform, is growing in line with revenue growth and is a key metric for the company, but, again, growth rates have significantly slowed. A larger percentage of this GMV is also related to zero-interest loans, which reduces earnings for Affirm and requires a larger balance sheet.
  • Net Interest Income: While interest rate is still a significant part of Affirm’s earnings, high delinquencies and interest rates have caused margins on that part of the business to shrink and increase volatility.
  • Operating Expenses: Operating expenses remain very high, as Affirm is increasing marketing spend, technology spending, and credit provisions to remain competitive, which are outpacing revenue growth.
  • Profitability: Despite its growth in other areas, Affirm remains highly unprofitable on both an absolute and a per-share basis. This lack of profitability remains a big problem, and the company needs to bring down its expense structure to generate profits in the near term.

Recent Concerns and Controversies

  • Rising Delinquencies: Affirm is facing increasing loan delinquencies, which have driven an increase in provision for credit losses and negatively affect profit margins. The company must get this under control to generate sustainable profitability.
  • Concerns about consumer debt: BNPL practices have been criticized for encouraging consumer overspending and leading to debt burdens. The company has to continue to stress responsible lending practices, whilst simultaneously trying to aggressively grow.
  • Regulatory Uncertainty: The regulatory landscape of BNPL is rapidly evolving, creating significant uncertainties regarding Affirm’s future operations. Specifically, Affirm is facing greater scrutiny from both federal and state regulatory entities regarding data, privacy, and lending practices. Any further restrictions imposed on BNPL will negatively affect business model.
  • Competition: The growing competition in the BNPL space is forcing Affirm to lower its margins and increase its investments in customer acquisition, increasing costs to operate.

Management’s View Management is aware of the headwinds that the company is facing with regard to the risks and is trying to balance profitable growth with prudent risk management. Management have outlined the steps they are taking to manage the credit quality of the loans by improving the models for risk assessment, implementing stricter criteria for offering longer-term or higher-value loans, limiting exposure to riskier consumers, and improving payment processing. It’s focusing efforts on attracting and retaining high-quality, frequent users with a high spending capacity and long-term relationship with the company. Management also continues to stress the long-term value of the company and its business and are trying to grow into a sustainable, profitable company.

Moat Assessment

Affirm’s “moat” – or competitive advantage – is not particularly strong, leading to a rating of 2/5. Its positive qualities are:

  • Brand Recognition: Affirm has built a recognized brand name in the BNPL space, and consumers may choose the platform based on its ease of use and transparency of loan terms, which helps its brand and user base.
  • Partnership Network: Affirm has developed a strong partnership network with large retailers, which allows them to access their large consumer bases, providing access and reach for Affirm’s services, while acting as a high-switching cost for existing retailers.

However, its weaknesses make its moat quite narrow:

  • Low Switching Costs (for consumers): For consumers, it is easy to move away from Affirm to other BNPL providers, as a result of a low switching cost and limited product differentiation from other providers. This is an inherent weakness in the space, giving very little competitive advantage over its peers.
  • Replicable Technology: Affirm’s technology, while effective, is not terribly unique, meaning competitors could potentially imitate Affirm’s systems.
  • Dependence on Partnerships: While partnerships allow Affirm to quickly grow its market reach, it also makes Affirm very dependent on these partnerships and susceptible to price gouging from the retailers, or retailers using a similar technology from a competitor.
  • Limited Pricing Power: As a result of the competitive landscape and similar services, Affirm faces limited ability to change its rates and commissions, leading to a lower and very volatile margin profile.

Understandability

Affirm’s business model, while utilizing financial and technical jargon, is overall pretty understandable, resulting in a rating of 4/5. It’s fairly easy to grasp how BNPL works, and how Affirm is distinct from other payment companies through its focus on transparency and direct integrations with retailers.

Balance Sheet Health Affirm’s balance sheet health is quite low, resulting in a rating of 2/5, showing quite a bit of risk to investors:

  • High Debt Levels: Affirm has a substantial amount of debt financing to fund their operations and loan portfolio. However, the high volatility and low-profitability of their business model may put strain on their debt servicing capabilities.
  • High Allowance for Credit Losses: Increasing loan delinquencies have increased the provisions for credit losses, highlighting the inherent risks of the BNPL business model, particularly during periods of economic downturn and high rates, which will reduce overall profitability and lead to losses.
  • Lack of Profitability: The core problem with Affirm’s balance sheet is its inability to convert its revenue into profits and positive cashflows, instead, it is suffering large losses and capital drain.
  • Rapid Capital Consumption: Affirm is rapidly burning through cash, and will need additional sources of funding in the near future. This reliance on investors puts the company at risk, if funding becomes scarce or hard to attain.