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Upstart (UPST) overachieves on one measure they'd love to reverse. They're in the top
ten of the most shorted stocks. Upstart's short interest was 42% of their float as of
02/28/2023. That's a staggering number. It means close to half of Upstart's shares
available to trade are bet on their funeral!

The chart linked below illustrates how Upstart's short interest has trended in the last
20 months. It shows that short sellers are increasingly confident that Upstart is on the
brink of collapse.

https://public.flourish.studio/visualisation/12944...

So my focus lately has been on their ability to survive. Do short sellers have it right?
Is good ship Upstart about to sink? To help answer that question, I've been looking at how
much cash they burn. Cash burn isn't the only way a business can go kaput, but it's the one
I'm starting with.

CFO Sanjay Datta's back-of-the-envelope numbers

During Upstart's 3rd quarter 2022 earnings call in early November last year, an analyst
asked about Upstart's cash burn. Here's how CFO Sanjay Datta responded:

I was just going to maybe put some quick back-of-the-envelope numbers to that. Our cash
sort of fixed expense burn across payroll and opex every month is about $30 million. And
even at zero origination scenario, we're getting a servicing stream of revenue that's about
$15 million. So there's sort of -- maybe the sort of $15 million delta every month that we
have to rely on contribution margin for to cover.

The key to deciphering his response is to tie these numbers back to Upstart's Q3.2022
quarterly report because those were the latest figures available to him at the time of
the Q3 earnings call. Upstart's total operating expenses in Q3.2022 were $215M and their
direct costs were $83M. That means their fixed costs were $132M ($215M - $83M = $132M).
However, these fixed costs included non-cash items primarily consisting of stock based
compensation ($37M) and depreciation ($4M). We need to remove these non-cash items to get
Upstart's cash fixed costs which were $91M for Q3.2022 ($132M - $37M - $4M = $91M).
Dividing by 3, we get Datta's monthly cash fixed cost number of $30M.

The revenue servicing stream of $15M he's talking about is what they call "Servicing and
Other Fees" on their financial reports. These fees were $45M in Q3.2022. Dividing by 3, we
get Datta's servicing revenue number of $15M.

Mr. Datta's point was that they have this stream of servicing revenue that comes in each
month from loans in previous months. Even if they were to get zero new loans in some month,
this servicing revenue would help to cover their cash fixed costs that month.

Of course, they didn't have zero new loans in Q3. Their revenue from fees in Q3.2022
totaled $179M, which included the $44.5M in servicing fees plus $134.8M in platform and
referral fees. This was enough to cover their $83M in direct costs with $96M left over.
This left over amount is what they call profit contribution. This profit contribution was
more than enough to cover their cash fixed costs of $91M in Q3.2022.

Today we can now look back to compare Q4.2022 numbers to Q3.2022 numbers:

                                   Q3.2022      Q4.2022
                                   -------      -------
Total Operating Expenses           215,324      205,411
  minus Direct Expenses             83,336       71,809
  minus non-cash expenses           40,380       37,564
  =                                -------      -------
"Cash" Fixed Costs                  91,608       96,038

Total Revenue from Fees            179,348      155,597
  minus Direct Expenses             83,336       71,809
  =                                -------      -------
Contribution Profit                 96,012       81,968

Surplus (Shortfall)                  4,404      -14,070                                                       

We see in Q4 that their contribution profit was not enough to cover their cash fixed costs.
Q4.2022 was the first time in eight consecutive quarters where they failed to do so. No
doubt this influenced their decision to reduce headcount by 20% in early 2023.

A broader view of Upstart's cash burn

Although the CFO's back-of-the-envelope exercise gives some insight into Upstart's monthly
cash burn, it's a narrow view. It focuses only on fees and operating expenses. We can get
a broader view of cash burn by considering Upstart's other sources and uses of cash. I used
Upstart's Cash Flow Statement to do just that. I made one minor cosmetic change -- I broke
out the cash they used to retain loans on the balance sheet into a separate line. Here's
how my version compares to Upstart's version for 2021 and 2022:

                               UPSTART'S CASH FLOW STATEMENT
                                    2021          2022
                                 ----------    ----------
Cash at beginning of period        311,333     1,191,241

Cash used by operations            168,353      -674,681
Cash used for investments         -143,877      -114,125
Cash from financing                855,432       130,032
                                  --------      --------
Change in cash                     879,908      -658,774

Cash at end of period            1,191,241       532,467

                                        MY VERSION 
                                    2021          2022
                                 ----------    ----------
Cash at beginning of period        311,333     1,191,241

Cash from operations               274,912       304,131
Cash used to retain loans         -106,559      -978,812 <= Broken out from Cash from Operations
Cash used for investments         -143,877      -114,125
Cash from financing                855,432       130,032
                                  --------      --------
Change in cash                     879,908      -658,774

Cash at end of period            1,191,241       532,467

It's obvious from my version that the elephant in the cash burn room is the cash they used
in 2022 to add loans to the balance sheet. In previous years they would immediately sell
most of the loans they bought. The result was a wash -- the cash they used for purchase of
these loans equaled the cash they received from sale of the loans. This had zero impact on
their cash balance because the purchase and sale were nearly simultaneous. In 2022,
however, they were unable to sell some of the loans they bought. These loans ended up on
their balance sheet. This did impact cash in 2022 -- to the tune of -$978.8M.

With our cash burn hat on, we want to know if this will continue. The answer appears to
be no. When asked specifically about this during their Q4.2022 earnings call in February,
they signaled they don't intend to expand this use of the balance sheet going forward.

Removing this loan activity gives us a more accurate picture of cash from operations. It's
apparent that Upstart generates a healthy amount of cash from their operations. What this
tells me is that Upstart does NOT have a problem with cash burn in the conventional sense
that expenses are greater than revenues.

Closing thoughts

Let's imagine that Upstart gets zero new loans and zero revenue in 2023. Their cash
fixed costs in 2022 were roughly $360M. We would expect that to continue into 2023 minus
$57M from the reduction in headcount. That would give them a yearly cash burn of about
$300M and a runway of roughly 1 1/2 years given their $420M in unrestricted cash. In other
words, from a cash burn perspective they don't appear anywhere near imminent collapse.
However, the half billion dollars bet by short sellers on their demise gets my attention.

I went through this this exercise because it helped me learn more about Upstart's business.
I'm an amateur analyst, so take my ramblings with a heap of salt. Comments or questions are
always welcome.

Ears <long Upstart>

Great post, ears! Thank you for breaking down the origin of the CFO's cash burn projections and laying out how they apply to current conditions.

Of course we expect Upstart will bring in some revenue this year, even if drastically lower than last year, so the 1.5 year coverage should easily extend past 2 years. They also should have the ability to do a fire-sale of some of the loans on their books, if they had to. They might take a sizable loss, but some significant portion of that ~$1 billion in loans should be convertible to cash in a pinch.

Recent economic news has not been good for Upstart in the short term, though it's somewhat mixed. The economy's continued strength (i.e. strong job growth) means that short term interest rates may go higher and stay up longer than we hoped a few months ago. That devalues the loans on Upstart's books and also makes it tougher for them to write new loans. Short term banking rates (CD interest rates) have been surprisingly stable the last month and a half, but mortgage rates climbed at all durations from 5/1 ARM to the 30 year mortgage.

On the other hand, economic strength is good for the company in that more of their customers can keep paying on their loans and afford to take out new loans if they have a good job.

A wild card that's entered the conversation in the last week is the collapse of Silicon Valley Bank and the abrupt closure of Signature Bank. There's at least some chance that these could be the initial rumblings of wider problems, though that seems unlikely at the moment. They do probably serve as a warning signal to the Fed not to jack up rates too high.

I'm also still holding on long to UPST.

Following up on this: "A wild card that's entered the conversation in the last week is the collapse of Silicon Valley Bank and the abrupt closure of Signature Bank. There's at least some chance that these could be the initial rumblings of wider problems, though that seems unlikely at the moment. They do probably serve as a warning signal to the Fed not to jack up rates too high."

News reports indicate that market participants and observers have changed what they expect the Fed to do next week due to the fears of contagion in the banking sector: prior to the collapse of SVB and SB, expectations were that a 1/2 point raise was likely due to the persistent economic strength and inflation observed in the US, but now few think the Fed will raise 1/2 point, and opinions are split whether they'll raise 1/4 point or leave the Fed rate unchanged.

The yield on the Treasury Five Year Bond has dropped like a rock from a recent peak of 4.35% March 9th down to 3.6% this morning, as market participants run to safety and drive up bond prices.

A stable Fed rate would be good for Upstart.

A stable Fed rate indeed would be good news for Upstart.

A greater catalyst might be news on this statement given during the Q4 earnings call:

"In our earnings call in August, I told you that we would begin to investigate partnerships that could provide more reliable and persistent funding to the Upstart platform. I'm happy to report that we're in late-stage discussions with multiple potential partners in support of this goal."<\i>

Looks like those late-stage discussions have borne some fruit.

Up 40% in after hours today.

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