Executive Summary
Nu Holdings Ltd (NYSE: NU), commonly known as Nubank, is an attractive investment opportunity due to its potential for growth in a rapidly expanding market. With over 100 million unbanked individuals in Latin America, Nubank has ample room to expand its customer base and market share. Brazil, with a population of over 210 million, offers significant potential for growth in the financial services sector, and Nubank has capitalized on this opportunity by leveraging technology to provide a superior customer experience and achieve impressive growth in both customers and revenue. As a low-cost operator, Nubank offers competitive pricing and savings to its customers, further strengthening its brand and reflected by its high net promoter score (NPS). Nubank’s Brazil operation has demonstrated strong unit economics with a return on equity (ROE) of 40%. The company is now replicating its successful business model in Mexico and Colombia, where it dominates the new credit card issuance market and maintains a high NPS. Nubank has a clear vision for how technology can revolutionize the banking industry and is executing it efficiently and rapidly.
Through its commitment to product innovation, Nubank is poised to disrupt traditional banking and grow its customer base to over 100 million active users, while expanding its average revenue per user (ARPU) from $100 to $150. This growth trajectory could result in $15 billion in revenue and $3 billion in net income, assuming a 20% margin, within the next three years. This translates to an earnings per share (EPS) of $0.6, accounting for 2% share dilution per year. Despite rallying over 50% year-to-date to its current price of nearly $6 per share, I believe Nubank remains undervalued, with the potential to be acquired at only 10 times the 2025 price-to-earnings (P/E) multiple.
The investment thesis is divided into four parts: (1) the description of Nubank flywheel and the five key strengths of the business, (2) a comprehensive examination of the business model, including profit margins and unit economics, (3) its competitive advantages, referred to as “moats”, and (4) an assessment of risk and valuation.
Part 1 — Nubank flywheel and five key advantages
Nubank’s flywheel
To start, a flywheel diagram has been created to illustrate the virtuous cycle that Nubank has established, taking inspiration from Jeff Bezos’ approach when he first founded Amazon. This modified version of the flywheel model incorporates some of Amazon’s key features, such as a two-sided market with network effects, a focus on low costs to benefit customers, and an emphasis on delivering an exceptional customer experience. This flywheel serves to reinforce Nubank’s strengths and further drive its growth, as each element of the cycle supports and amplifies the others.
Let’s zoom in on Nubank’s flywheel diagram. Growth sits at the center of Nubank’s flywheel diagram (having added over 20 million new customers in 2022 alone). With its current customer base reaching 74 million, Nubank has achieved significant scale. Combined with its no-branch business model and technology advantage, Nubank becomes the lowest cost operator (less than $1 cost to serve per active customer). By keeping costs low, Nubank can offer competitive pricing and more savings, such as no credit card fees, lower interest rates on loans, and higher interest rates on savings. This excellent customer experience results in a high Net Promoter Score (NPS as high as 90) and increased engagement (activity rate improving to 82% in 2022 from 76% a year ago, with a daily to monthly active user ratio over 50%, or at least 30 million customers logging into the app every day). High engagement creates more value for the merchants and marketplace, where Nubank’s NuPay function serves as a more convenient paying option for customers’ online purchases (over 2 million merchants using Nubank’s digital banking platform). Additionally, high engagement adds more value to Nubank’s partnership ecosystem, allowing for the introduction of new products faster and more efficiently — capital efficiency. This partnership has helped Nubank launch new products such as insurance, crypto, auto, and home equity loans within one year, which brings joy to customers and completes the flywheel diagram colored in black and red in the middle.
The green arrowed flywheel provides additional benefits to help the wheel spin faster and safer. On the left-hand side, high customer engagement leads to better data collection leveraging Nubank’s cutting-edge technology stack. This data collection combined with machine learning further improves Nubank’s risk management, which leads to a lower cost of risk (delinquency ratio lower than peers) and consolidates Nubank’s low-cost operator position. Moreover, data collection helps Nubank innovate faster, especially in the area of product offerings. On the right-hand side, good customer experience leads to a strong brand and word-of-mouth referrals (80% of new customers are acquired organically), bringing down the cost of acquiring a customer (a $5 CAC versus incumbents’ $15 CAC), and consolidating Nubank’s low-cost operator position.
Strong growth in a large TAM
There are several reasons why Nubank represents an attractive investment opportunity. Firstly, the company operates in a large and rapidly growing market, with a significant portion of the population in Latin America unbanked (over 100 million) and eager for access to financial services. This presents a significant opportunity for Nubank to continue expanding its customer base and increasing its market share. With a population of over 210 million, Brazil represents the ninth-largest economy in the world and a significant growth market for financial services. Nubank has been able to capitalize on this opportunity by leveraging technology to provide a superior customer experience, resulting in impressive growth in terms of both customers and revenue. Since its founding in 2014, Nubank has grown its customer base from 0 to 70 million in just five years. Additionally, the company is now using its successful business model in Brazil to expand into Mexico and Colombia, which combined have more than two-thirds of Brazil’s population and GDP. By learning from its successes in Brazil, Nubank is growing even faster in terms of number of users and revenue per user in these new markets. NuBank qualifies as a legitimate growth company based on the following record:
(*) decline in 2020 was due to the rapid growth in its customers base and the pandemic impact
In Brazil, the following table provides a summary of Nubank’s current position compared to the top five incumbent banks. The key takeaways from the table are as follows:
- The Total Addressable Market (TAM) for securitized products, such as payroll loans, is significant, and the top five incumbents currently hold over 70% market share (compared to 50% in the US). This makes them vulnerable to disruption by Nubank and other fintech companies.
- Nubank’s product and profit potential is still in the early stages or at the inflection point of the S-curve, indicating that there is significant room for growth and expansion in the future. This growth is likely to accelerate as the company continues to innovate and expand its offerings.
In Mexico and Colombia, Nubank dominates the new credit card issuance market with 29% and 38% market share respectively, as disclosed during the most recent Q4 2022 earnings. To put it in perspective, every one out of three new credit cards in these markets comes from Nubank. The high net promoter score in both markets is a further indication of Nubank’s appeal to customers over its competitors. If Nubank can replicate its success in Brazil, it has the potential to attract at least 30 million customers in the next three years. Despite entering the market only three years ago, Nubank has already achieved a 5% and 2% market share for credit card purchase volumes in Mexico and Colombia, respectively. With the upcoming launch of its new savings product in both markets and its track record in Brazil, Nubank is likely to gain an even larger market share in these regions.
Customer-centric approach
One of Nubank’s key advantages is its customer-centric approach. The company’s management team understands that in order to succeed in the highly competitive banking industry, they need to put the needs of their customers first. This is evident in everything from the user-friendly design of their app to the transparency of their fees. This approach has led to most of Nubank’s customer acquisition being through word of mouth, significantly reducing its acquiring cost with last year’s figure of $5 CAC per customer as compared to incumbents’ CAC of $15 or above. Furthermore, the company’s low churn rate, which is less than 1%, is a testament to the effectiveness of their customer-centric approach. The company’s Net Promoter score is also incredibly high, as high as 90, which is unheard of in the financial industry as compared to the incumbents of 40–60 range.
Low-cost operator
Another key advantage of Nubank is its cost-efficient business model. By operating with no physical branches and a lean workforce, the company is able to maintain low overhead expenses. Nubank employs only 7,000 employees, with a quarter of them being developers and engineers. This is in contrast to traditional banks, which typically employ 10 to 20 times more people to serve a similar customer base. The cost savings generated by this business model are passed on to customers in the form of lower fees, lower loan rates, and higher interest rates paid to depositors. Nubank’s entry-level credit card charges no fees, while most competitors charge fees. Nubank prices its personal loan lending at over 20% lower rates than incumbents. Additionally, Nubank provides savings interest rates as high as CDI (Brazil’s benchmark rate, currently at 13.75%), while incumbents often pay depositors 50% less. It is estimated that Nubank has passed on $3 billion in savings on credit card fees since its inception and $1 billion in additional savings interest per annum to its customers. The cost savings and customer-centric approach have also helped Nubank generate positive word-of-mouth, further driving customer acquisition and creating a virtuous feedback loop. As the company continues to grow, the cost savings compound, allowing Nubank to pay top-notch compensation to attract the best talents, attract even more customers, and maintain its competitive edge.
Data collection and superior tech stacks
Nubank has a strong technology advantage that serves as a moat to defend its business. This is because traditional financial institutions have a significant amount of legacy technical debt that hinders their ability to innovate and be flexible. In contrast, Nubank built its technology stack from scratch, utilizing the most advanced databases, machine learning, cloud services, and open-source APIs. Nubank collects millions of data points, using over 10,000 data points per month to improve its credit engine, which allows them to better understand consumer behavior and risk profiles. This data collection and analytics enables Nubank to achieve better risk management, as evidenced by their lower-than-peer delinquency ratio. Nubank’s app has a high level of customer engagement, with a DAU/MAU (daily / monthly active users) ratio as high as 50%, comparable to leading social media platforms like Instagram. This high engagement facilitates A/B testing for new products, and Nubank’s modern technology architecture, which is 100% cloud-native, allows them to launch 120+ deployments per day, allowing them to quickly roll out new products. Nubank has already expanded into 10 different product lines, with each growing over 100% per year in terms of customer numbers. This success can be attributed to Nubank’s tech-focused culture, with a quarter of its employees being developers and engineers — one of the highest ratios among financial institutions in Brazil. Additionally, Nubank acquired Cognitect in 2017, whose founders created Closure, a programming language that is excellent for scaling operations dependent on immutable data, minimizing friction and fraud risk — essential for a credit card company.
Open banking and financial inclusion as the tailwind
Open banking and financial inclusion are major trends in Latin America. Open banking aims to improve transparency and reduce barriers for customers to access the best financial products. It levels the playing field between Fintech and traditional banks by allowing customers to gather their financial history and take it wherever they want. Nubank is a leading advocate of open banking, and in September 2022, it joined the Open Finance system, which allows institutions to share customers’ financial data with one another. Ultimately, customers care about value, and the company that can provide the best value will win in this market. Open finance promotes transparency and Nubank will benefit and gain more market share in the future. Financial inclusion is a key goal for both left-wing and right-wing parties in Latin America. It aims to ensure that everyone has access to financial services. Nubank has been able to reach a large, underserved market by providing access to financial services through its digital platform, which is accessible to a wide range of customers, including those who may not have previously had access to traditional banking services. This focus on financial inclusion is not only good for society, but also represents a significant growth opportunity for the company. Brazil introduced PIX, a central bank digital currency, in 2020. PIX is an instant payments system that allows consumers and merchants to send and receive money via a QR code without fees. Since its introduction, PIX transactions volume has grown significantly, and it now has equal significance as credit card and debit card payments. Over two-thirds of the population have registered as users of PIX. It is likely that cash will be replaced by digital forms within a few years. PIX serves the purpose of being a fast and efficient medium of transaction. Nubank is one of the early adopters of PIX and currently has 25% of the market share, and is growing rapidly. It also leverages the PIX platform to introduce new products, such as PIX credit, which allows for installments and generates an additional revenue stream, thus improving customer retention.
