NuBank: Exceptional Growth, Giant Moat, Fair Price!
NuBank is the largest digital bank in the world yet it still has a long runway to grow. And its attractively valued now!
This guy is Jim Sinegal.
You may not know him, he is one of the least popular famous guys in the world. However, he exerts disproportionate influence on today’s entrepreneurs.
The guy is the Co-Founder and the legendary CEO of Costco.
He always kept low-profile.
He always put on his employee badge.
He treated Costco employees fairly and equitably.
However, there is probably one concept that he brought into the world of entrepreneurship that influenced generations of entrepreneurs: Customer obsession.
He always prioritized the customer and promised consistently low prices and high quality.
To achieve this he:
Operated with laser thin margins.
Prioritized private labelling.
Acquired cheap real estate.
His successor, Craig Jelinek once wanted to increase the price of Costco’s famous $1.50 hotdog+drink bundle. Sinegal famously said “If you raise effing hot dog, I will kill you. Figure it out.” He figured it out by bringing the manufacturing at home.
One of his most famous followers is Jeff Bezos, who also exerts an asymmetric influence on entrepreneurs.
In 2001, Amazon’s stock declined 90% from its highs and it wasn’t still sufficiently profitable. In the chaos, Amazon executives convinced Jeff Bezos to raise prices across the board, a move he had always strongly opposed.
It was after these developments Jeff Bezos met with Jim Sinegal to discuss potential strategic partnerships. Discussions went nowhere but Bezos got invaluable business lessons.
Sinegal explained to him Costco’s strategy in one sentence: “Value trumps everything.”
He drew Costco flywheel on the back of a napkin standing on the table and showed it to Bezos:
After that meeting, Bezos gave up raising the prices and explained the reasoning to his executives in the next meeting. Drawing inspiration from Sinegal, he drew Amazon flywheel on the white board:
Bezos prioritized providing value to customers and obsessing about them. This allowed Amazon to quickly increase its market share and it leveraged its dominant position in entering other markets. That expansion eventually resulted in an ecosystem of connected businesses that rose on a dominant product that had become dominant by obsessing over the customer.
This is exactly why Nubank is so successful and why I love it.
They were clearly inspired from Bezos, and indirectly from Sinegal, and obsessed over their customer. In the introduction of their 2023 annual report, they mentioned customer obsession five times. Their success in the core business allowed them to create complementary businesses that they quickly scaled by leveraging the power of their core product.
They have clearly studied and successfully implemented the Sinegal-Bezos blueprint.
They even drew their own flywheel in their annual report:
You know what happens when a company obsesses over customers and executes to satisfy them in every way possible? They become huge.
Costco is 20 times larger and Amazon is freaking 500 times larger now than they were in 2001 at the time of the talks between Sinegal and Bezos.
Nubank definitely has a comparable potential.
It’s active only in three countries now. There are 30 more only in Latin America.
Why wouldn’t it expand to the US where regulations are much more flexible?
Why wouldn’t it expand to developing Asian markets?
It can.
This company succeeded in an environment where all the similar projects in the past failed. They have pulled this off by understanding the business and obsessing over their customers.
Yet, the stock declined 25% from its highs. The question is clear: Is it a “buy” now?
This is what we are going to discuss here. So, let me cut the BS and dive deep into Nubank!
What are you going to read:
1. Understanding The Business
2. Moat Analysis
3. Investment Thesis
4. Fundamental Analysis
5. Valuation
6. Conclusion
🔑🔑 Key Takeaways
🎯 Nu successfully implemented a growth flywheel which keeps driving exponential growth. It’s not just a digital bank now. It’s a compilation of complementary financial services that together create a giant ecosystem.
🎯 Its technical superiority and massive scale makes it near impossible to challenge its position by new entries or smaller competitors.
🎯 Revenue growth is exploding and it still has a long runway to grow as its Mexico and Colombia operations are fairly new and it’s only active in 3 countries.
🎯 Its equity-to-asset ratio is sufficient to be considered healthy yet its 90 day non-performing loan ratio is a bit above average. However, this is still acceptable as it’s on par with the comparable US companies like Sofi.
🎯 It’s fairly valued promising just above average annual returns for the next 5 years. If the macroeconomic environment allows, it can easily surprise on the upside.
🏭Understanding the Business
The most successful businesses in the world are often disruptors:
Amazon disrupted the way we shop.
Google disrupted the way we use the internet.
Apple disrupted the whole computer industry twice.
If you think about it, you can list most disruptor companies in a few minutes because there is a big problem about disruption: It’s rare.
People are defined by inertia. We don’t want to get disrupted. If we think that our life is good, we don’t want to undertake the burden of changing it so it can be slightly better.
We are only receptive to disruption if we don’t already have what it promises.
The internet scaled so fast because we didn’t have it, iPhone sales grew exponentially because we didn’t have something comparable to it.
This is exactly why the largest digital bank in the world, NuBank, emerged in Brazil and not in more developed regions like the US or the EU.
People in the US and Europe were already largely banked in 2013, when Nu was founded. In comparison, 45% of Latin Americans still don’t have a bank account today.
This was way higher in 2013 when Nu was founded. This is what David Velez saw and I love it when founders make their moves based on such insights. This shows that they understand the business, supply & demand dynamics and they have a keen eye in spotting opportunities.
Not just the market they picked and timing but the way they entered the market also shows that Nu leadership has a robust understanding of business.
They didn’t just curate their services, launched it and tried to acquire customers through aggressive marketing. No. They did something called “indirect entry.”
Indirect entry refers to entering a market by offering a complementary product or a single product that the existing competitors largely overlooked. This allows you to:
Avoid direct competition.
Test the waters on a small scale.
Channel all capabilities to develop a superior product.
They didn’t just come out and say “hey we are a digital bank, don’t you want an account?” No. They found the pain point of customers: Credit.
Up until Nu scaled its operations, most of the adult population in Brazil couldn’t own credit cards because of the common underwriting criteria used by the existing banks.
Nu came up with a revolutionary assumption: It could issue cards to more people by personally tailoring underwriting criteria through extensive use of proprietary data that it would gather through its mobile application.
If it asked people whether they wanted a digital bank account, they could say no.
It asked people whether they wanted “credit”, everybody said yes.
This was an amazing move that allowed them to establish their business and gain early traction without much marketing.
The product literally became viral. As of Q3 last year, Nu had 15.6% market share in the Brazil credit card market, nearly 5 times more than its closest competitor.
It earned the trust of a large pool of customers with the credit card product and this allowed it to expand to the core banking market.
Four years later, in 2017, it started that expansion with Nu account, a fully digital banking solution with free deposits, transfers, payments and nominal fee withdrawals from the partner ATMs.
It changed the question it was asking. It was now “Do you want a full suit of banking products from a firm that gave you a credit card while everybody else rejected you?” instead of just “Do you want to bank with us?”
Everybody said yes.
This is the power of successful indirect entry.
They found a pain point and solved it.
They obsessed over their customers and won their trust.
When it offered another product, customers flocked to it.
What do you think happened? They received over 100 million applications.
It was so successful from the beginning that they had to reject dozens of millions of potential customers. All because they kept their fees way lower than the incumbents and obsessed over their customers.
This expansion was critical for Nu because it allowed them to be the primary banking partner for its loyal credit card customers. Before long, small and medium sized enterprises (SMEs) wanted to bank with Nu too and it launched SME checking account in 2017.
Then they built on it:
Introduced prepaid card in 2018.
Started offering personal loans and checking for micro businesses in 2019.
Insurance brokerage and investment products were introduced in 2020.
Introduced Buy Now Pay Later (BNPL) solutions and marketplace in 2021.
In 2022, it launched its native payment system Nu Pay.
Started offering secured lines lending in 2023.
Do you now see what they did?
They created a flywheel and evolved into an ecosystem.
Their digital expertise allowed them to issue low fee cards to more people.
Low fee cards organically attracted people and built their customer base.
They created new low fee products and sold it to their existing users.
Existing users that loved the company fueled new user growth.
Nu innovated to solve problems of its new customers.
As they scaled they further lowered their costs.
Low costs attracted even more users.
This is an amazing example of how business flywheel is built and run.
Nu evolved from being a credit-card provider to a digital bank and from there to a one stop shop for all financial services. It’s the first company to have achieved this at large scale.
Its revenue streams illustrate this point.
In 2023, 20% of its whole revenue was earned through fees and commissions i.e capital light revenue sources. This is amazingly high given that traditional banks make their money mostly through interest income. This is why they are valued by book value.
Nu, on the other hand, rips off this shirt by refusing to be a “bank” and constantly innovating its way out of that structure. It served customers whenever and wherever it could.
Example? It runs an online e-commerce marketplace.
It does this because it knows the financial habits of its customers and it leverages this by arranging more flexible payment structures with the merchants on its marketplace which in turn allows them to pass those advantages to the customers when they use Nu in-app payment.
In short, Nu is no longer just a digital bank, it’s an ecosystem of financial services that offer:
Loans
Banking
Insurance
Credit card
e-commerce
Crypto trading
Investment accounts
All for the lowest fees possible.
If you have read so far, you now know how to look at Nu.
They followed the Sinegal & Bezos blueprint and they have built a financial services empire.
🏰Moat Analysis
Oh wow, oh wow, oh wow!—This is my reaction to Nu’s moat.
Let me tell you how I feel: I write 50 to 60 deep dives a year and only a handful of times I felt like I would buy the whole business at a glimpse if I could afford it.
NuBank is definitely one of those businesses.
It has a giant, giant moat that is near impossible to breach in the markets it's operating right now.
Yet, I have seen some people on Substack and social media who claim that NuBank is a digital bank and thus what they do is highly replicable so it doesn’t have a moat.
This is pure bullshit.
This is a habit from investing in the era of software businesses.
It’s true that pure software businesses don’t have a moat. In the last 20 years, investors lost a lot of money by investing in fast-growing software businesses. When such a business hit a product market fit, a product manager or one of the promising engineers would leave the company, found its own business, take market share from his old company or completely kill it.
At some point people started to see “digital” as a shortcut for “software business with no durable competitive advantage.”
This is why people think Nubank doesn’t have a large moat. It’s digital so you don’t need much to replicate it.
People who think this has 0 knowledge of business and competition dynamics.
If you go to the basics and start your analysis from there, you’ll see that Nu has a giant moat.
As Michael Porter put it in his definitive book “Competitive Strategy”, a competitive advantage always comes from two sources: Cost advantage or differentiation.
You can either offer a 100% substitute at a lower price or you can offer a different product that makes competition irrelevant.
Dasani and Aquafina are both simple bottled water brands, they are 100% substitute so the competitive advantage comes from price. People tend to pick the cheaper one. iPhone and Samsung Galaxy, on the other hand, are similar products but they aren’t 100% substitutes, differences in taste and desired capabilities play a big role in consumer preference.
Where does Nu fall in this picture?
It’s primarily the lowest cost provider but it’s not a regular one.
In order to fully understand it, we should also ask the question: How can a company have a lower cost structure?
Low costs may stem from two sources: Technical superiority or larger scale.
In very rare cases, a business has lower costs because it has both technical superiority and larger scale. It has one of them in the first and builds the other over time.
Clear example to this is Amazon: It started as a lowest-cost provider because of its technical superiority but then it also reached an unmatched scale. Today, it’s both technically superior to all competitors and larger than all. This is nearly an invulnerable position.
Nu has exactly this.
It built a business around data and started to offer credit cards without annual fees to those who couldn’t get it from the existing banks. It could pull this off because it had none of the fixed costs of regular banks:
No branch leases.
No bankers interacting with customers.
No security or branch maintenance expenses.
This structure, combined with efficiencies created by extensive use of data, allowed them to pass savings to its customers and quickly gain traction by word of mouth.
As a result they grew exponentially:
They grew from 2 million customers in 2017 to 110 million in 2024. This was only possible because their customer acquisition cost was so low. It was low because by passing its savings to customers it put word of mouth in motion.
To be precise, its customer acquisition cost was just $2 in 2020. Though that steadily increased as it grew, today it’s still only $9 which is ridiculously low given that commercial banks in the US have a customer acquisition cost above $500.
So, they scaled because of their low-cost structure that stemmed from technical superiority.
The question that naturally follows from here is that: Now that we know the secret, can’t other companies with superior technical abilities match them?
They can’t because they also have the scale now.
They are the largest of their kind so they can afford the top technical talent.
They can enter new markets by leveraging their dominant position.
Their expenses disperse over 100 million customers.
This is not just a set of assumptions, we can see this on data.
Their already very low cost to serve declined even further in the last quarter:
Three years earlier, in Q3 2021, their cost-to-serve was already very low at $1.2, now it’s 34% lower. This is just insane.
They can only do it now because they have both technical superiority and scale.
It basically takes your every weapon, just like Amazon.
If you are going to challenge it, you won’t have the scale starting out, you already lost that front.
Even if you can achieve a better technical capability, it will match it instantly due to its market power and size. There is no way you can undercut it in its own market.
It can only be challenged by a comparable platform that has similar capabilities having reached the similar scale at other markets, like Revolut.
Would they want to do it? Not anytime soon because then Nu will also get into Europe and challenge it.
If there is a new market to enter, Nu can leverage its dominant position.
If there is a new product to offer, Nu can offer it cheaper than others.
If there is a super talent to hire, Nu can pay the top salary.
Meaning, it has a giant moat.
If some venture capitalists gave me $30 billion dollars and asked me to challenge Nu, I would just tell them to take their money and invest in Nu. This is how big its moat is.
📝Investment Thesis
If you have a moat as wide as that of Nu’s, the business can become huge if you have one or two growth drivers. Nu has several.
It has ample opportunities to expand.
It’s currently active only in three markets: Brazil, Mexico, Colombia. These markets combined make up 60% of the Latin American GDP.
Natural expansion targets at this stage are Argentina, Chile and Peru, which together make up 15% of the continent’s GDP.
It’s not a question of “if” but “when” Nu will enter these markets. When it enters these markets, we will likely see an era of accelerated growth.
It can easily expand its share of wallet.
There are basically two ways a company can increase the money it makes: Sell to more people or sell more to the same people.
Nu’s success so far has been defined by selling to more people while it lagged in selling more to the same people. That’s natural as its focus was on customer acquisition rather than maximizing profits.
For comparison, its Average Revenue Per Active Client (ARPAC) was $11 in the last quarter while this is above $45 for traditional banks. Meaning, it has significant legroom to expand its share of wallet.
Revenue can easily double if it can only increase its ARPAC to $20. This is doable as it reported that ARPAC has already reached $27 for earlier cohorts.
It just needs to increase ARPAC of the earlier cohorts to the level of traditional banks and it should ramp up upsells to the later cohorts. It’ll do this inevitably.
It can decrease funding costs by expanding the deposit base.
As it grows its deposit base, it can decrease its cost of funding by originating loans out of that base.
In the last quarter, its deposit base grew 48% on a year-over-year basis, from $19.1 billion to $28.3 billion. Its funding costs currently sits at 89% of the blended interbank rates of the countries it’s currently operating in. As its deposit base expands and inflationary pressures in its geographic market wane, it can decrease its cost of funding substantially and boost margins.
As you see, despite its sheer size, Nu remains as a young growth company that only operates in three countries with ample opportunities to expand beyond its current geographic markets and further scale its current operations.
The question is can it do that? Well, management showed us that it's capable of creating the largest bank in Brazil and entering the new geographic markets.
I don’t see any reason why they won’t execute further on the vision.
📊Fundamental Analysis
➡️ Business Performance
Wow… This would have been my reaction if you blurred the name and showed me Nu’s revenue growth.
This company generated just $327 million revenue in 2019 and now it generated freaking $5.4 billion in the last twelve months.
If you are not heavily impressed now, consider this: Nvidia was generating $11 billion revenue in 2019 and it generated $110 billion in the last twelve months, 10x of its 2019 revenue and everybody is talking about Nvidia. It’s justified.
However…
Nu generated 16x of its 2019 revenue in the last year. This is something not only exceptional but also extremely rare. You are witnessing a company that’s not just outperforming the competitors, but disrupting the whole industry.
It’s an equivalent of Apple post iPhone or Amazon post AWS.
What’s even better? It translated 33% of this revenue to net income and generated $1.7 billion profit. This is unmatched by any bank, may it be traditional or digital.
There is nothing else that can be said for this stellar performance.
The chart is like it’s shushing and trash talking the skeptics 🤫
➡️ Financial Position
It’s always been a bit of a pain in the ass to assess the financial health of a banking company. This is why we had the 2008 crisis and then the collapse of the Silicon Valley Bank in 2023.
The complication stems from the fact that banks make money on their liabilities, mainly their deposit base.
This is why traditional methods of assessing financial health don’t apply to banks.
Instead we have to assess two things:
Can they endure a financial storm?
How risky is their loan portfolio?
Peter Lynch suggests looking at three metrics to assess health of a lender or a commercial bank:
Equity to asset ratio
15-90 day non-performing loan ratio
Nu’s equity to asset ratio is around 6.4% which is a bit below that of major US money centers banks like JPM which has as much equity as 8% of its assets. Yet, it's well above the risky zone, which is below 5%.
Its loans are also not particularly risky.
Its 15-90 day non-performing loans are currently at 4.4% which is below the higher end of the acceptable limit that is 5%.
Its 90 day non-performing loans are a bit high at 7.25% given that the average for Brazilian banks is 6.1%. However, considering that most of its loan portfolio is made up of unsecured personal loans, this is still an acceptable number. It’s on par with the US neobank equivalents such as Sofi of which +90 day NPL is around 7.8%.
In short, we can say that Nu’s financial position is as healthy as it gets for a very fast growing neobank that generates most of its revenue from credit cards and unsecured personal loans. Systematic risk aside, I don’t think Nu is exposed to particularly higher credit risk than its peers.
➡️ Profitability & Efficiency
Despite being already highly profitable, Nu achieved to keep its interest margin (NIM) largely stable in the last 12 months.
As you see, its NIM was 18.8% in Q3 2023 and it’s now 18.4%. This also solidifies our assumptions about its moat as we can infer that there is no other digital bank that is offering loans with tighter margins to a wider population. It looks like Nu is capturing this demand without any competition.
On the efficiency side, its Return on Assets (ROA) is also way higher than the industry average.
Its ROA currently stands at 4.2% while average ROA for Brazilian banks is 1.5%. Its ROA is also way higher than the US money center banks like JPM which has an ROA of 1.24%. Its digital bank rival Inter & Co. has an ROA of 1.1%.
When you compare it to the other players in the industry, you see how superior its operation really is.
In short, we are looking at an extremely fast growing operation that takes a bit more risk than industry peers but also is way more efficient than them.
If we get an attractive price that compensates for the additional risk we get, it’s a great investment.
So, let’s discuss it now: What about the price?
📈Valuation
I love it when I deal with an exceptional company that is way superior to its peers with a durable moat.
Why? It’s simple.
Such businesses tolerate a higher margin of error than mediocre ones. All you need to do is to come up with a conservative set of assumptions and compare the price target with the price today.
It’s really easy to do this for Nu because this company posted 45% revenue growth last year.
We can assume 20% annual revenue growth for the next 5 years and that will still be conservative.
For an additional layer of security, I’ll assume that net margin will decline to 30% from 32% as its customer acquisition cost increases due to its larger size and shrinking contestable market.
In this case we will have:
$13.4 billion revenue for FY 2030.
$4 billion net income for FY 2030.
Attaching a conservative 25 times earnings, we have a $100 billion company. It’s currently valued at $56 billion which means, based on conservative assumptions, we are looking for 12.3% annual gain in the next 5 years.
I know some people won’t find this attractive but I like it given the strength of the company and all time high stock prices. It’s simply very hard to find bargains in this market that promise +20% annual returns but you still have to allocate money.
In this environment, I would rather stick with an exceptional company that promises adequate return with limited downside rather than buying speculative stocks thinking that they are of deep value.
I am comfortable with starting a position at this level and I will simply buy more if it further decreases.
🏁Conclusion
NuBank has probably the widest moat among all the digital banks.
It started small and it created itself an ecosystem of diverse financial products with high profit margins. It generates 20% of its revenue from capital light businesses which deserves a high premium.
Its banking operations are performing way better than the peers and its financial position is as strong as the traditional banks.
It’s making a way better use of its capital than the conventional banks and neobank competitors.
In short, we are looking at a company with:
Wide moat.
Superior operations.
Ample growth opportunities.
The price may look high right now and you may think you can find opportunities that offer way better than 12% annual return. I am simply fine with this.
If I learn one thing in my investing career, positioning in an exceptional company at fair prices pays way higher dividends than you calculated in the first place.
I like it here, I will love it if it declines further.
Thanks very much for your breakdowns. I love the way you analyze stocks sir
It's clear what competitive advantages Nubank has over traditional legacy banks. However, I'm not so sure about the competitive advantages it has compared to, for example, Revolut. Nu Holdings has twice as many clients, but nothing else really comes to my mind.