An Autopsy of MoneyMe, My Biggest Mistake
As any readers of mine know I like to focus on my errors as I believe they give me the best opportunity to learn. In my two years so far investing, there's one mistake that stands out as bigger than any other, with multiple layers of issues compounding to bring about a perfect storm for my investment. This mistake is my investment, and continued reinvestment in MoneyMe, a fast growing fintech lender. This mistake was the perfect combination of poor business analysis, poor portfolio management and poor macro forecasting to result in both my largest absolute and relative drawdown in any position. I want to explore what happened with the business, the mistakes I made and most importantly what my takeaways were.
MoneyMe is a fast growing fintech lender that similarly to upstart uses AI to gain an edge on modelling their loans. Unlike Upstart, MoneyMe finances customers directly and holds their loans on book. MoneyMe's point of difference comes from their speed of approvals, with loans approving in minutes, which compliments their quality customer service and general user experience. This has proven especially important in their Autopay product, which leverages significantly faster financing times to allow car dealers to offer in shop, drive away financing to customers.
The first thing to note is that I still believe MoneyMe had a solid product. Their AI lending had been stress tested at lower quality credit (as they started off mainly catering to subprime customers as opposed to higher quality lendees now). Furthermore, their customer experience is fantastic as testified by a 4.8 star average google review. Finally, Autopay is a perfect alignment of incentives between them, the dealers and the customers. The company seemed to be trading at a reasonable valuation of 30x cash profit (this will require more explanation) with rapid revenue and profit growth. Furthermore, the founder was the largest shareholder and there was heavy insider ownership. Finally, they were seeing artificially reduced demand due to the chip shortage reducing new vehicle sales which I believed would loosen in 2022.
Before I dissect what went wrong I first need to explain 'cash profit'. 'Cash profit' is a metric used by many fast growing Australian lenders as IISB 16 requires loan loss provisioning up front. This causes any fast growing lender to look less profitable than they are as they recognise their losses up front, and those provisions are large compared to their book as they're growing so rapidly. Cash profit instead just provisions as the loans are actually written off. While it's a useful metric it has the opposite issue to normal profit as it overstates underlying profitability as loan losses for the larger newer portions of the book haven't flowed through. It's messy, which is part of why I got this one so wrong.
The Initial Problem with the Thesis
There are two distinct periods I need to look at. The initial thesis was developed late 2021. I was still very new to investing and thus made a lot of very simple mistakes. The first mistake was just valuation. 30x cash profit appeared cheap in the middle of 2021 as everything looked overvalued. However, much of the growth was being fueled by equity raisings and debt. Organic growth was limited by the amount of cash coming into the business. A business like this should have never deserved a 30x multiple on normal profit, let alone overstated earnings as I mentioned before. The next issue I missed was around financing. My thesis for the demand side of the equation was accurate as they continued to grow their loan book and Autopay continued to perform well. However, as I just mentioned their growth was financed by equity raising and debt. This was a fantastic strategy during 2020 and 2021, however I should have forseen with interest rates obviously set to rise and an overvalued stock market that the financing market would get significantly more difficult (which it has). The company has been forced to raise equity at significant discounts to historical share price values just to continue functioning. Looking back, even attempting to value this company was a mistake. Financials are complex at the best of times and this was a fast growing, unprofitable fintech, as far outside my circle of competence as you can get. With 2 years more experience I would still put this in the too hard basket now, I had no right owning it with a year of investing experience under my belt.
Before I continue the timeline I want to take a look at the CEO quickly, Clayton Howes. While he always seemed a bit promotional, he had a significant stake in the company and I was always attracted to his youth, energy and ambition. In the lead up to 2022 I believe he had done a pretty good job at running the company and had grown from a generic subprime lender into a company with multiple points of difference to their peers. However, the traits that attracted me to him ended up actually being the biggest issue. His youth ended up manifesting as naivety going into 2022. While many other lenders were battening down the hatches, he decided to try and aggressively take market share at a time when their financing couldn't keep up. His ambition ended up manifesting into empire building as he performed an aggressive acquisition that diluted shareholders and significantly loosened their focus as a company. Finally his positive attitude manifested as a lack of accountability for mistakes and issues with the company. He was overpromotional, and while I do think he genuinely believed the things he said there was a clear lack of realism.
At the end of 2021 MoneyMe did an aggressive acquisition of a competitor lender SocietyOne using stock. The rationale was to give them better scale, recognise synergies and to open them up to an older market. At the time I was sceptical. The company was doing $3m cash npat and was acquired for $132m, the entire value proposition was supposed to come through $17m of synergies. The acquisition felt like unfocused empire building, bulking up for the sake of bulking up as opposed to focusing on their value proposition. The acquisition grew the loan book by 70% which meant that this was transformational, and would have a huge impact on the future of the firm. Looking back this was the first place I should have sold. I didn’t really like the acquisition and Clayton was betting the company on it. Instead, I held.
The Growth Push
In May of 2022 MoneyMe released an investor day presentation and with it their plans for aggressive growth, marketing and expansion into 2022. The company had momentum and Clayton wanted to challenge the big banks and become a serious player. I hated the move. At a time when interest rates were rising and the economy looked shaky they needed to batten down the hatches. Their origination rates relative to marketing spend were really good so they could feasibly trim marketing spend and let the business continue to grow at a slower, more sustainable organic rate. This would both reduce the need for new funding at a time when funding was drying up and also improve GAAP profitability, giving the market a demonstration of the underlying profitability of the business. They were doing essentially the opposite of this and increasing spending as funding got more difficult.
This is the most frustrating period of this story. I knew they were making the wrong move, but I liked the story and trusted the CEO so I stuck with it. This is a clear example of thesis creep.
The Price Crashes
As the effects of the Ukraine war hit, the stock market crashed and investors started to feel concern around MoneyMe’s funding their price collapsed. Already down 40%, the stock price crashed another 60% soon after this announcement as other investors realised what I didn’t. The worst part is that I was steadily buying most of the way down. At this point my initial thesis was gone, but I just thought the company looked cheap (which it did). I had been following the company in detail for a long time (by my standards) and I thought I had a decent grasp of the business. Down 60% in 6 months felt like an overreaction, so I kept steadily accumulating until it was a decent sized position, with my cost basis significantly lowered.
It All Falls Apart
The release of the FY22 annual report included a note about $75m Pacific Equity Partners (PEP) debt who’s covenants were breached with the SocietyOne acquisition. While those covenants were waived initially, over the following 6 months this would progress to become a significant issue. Most didn’t think much of it as it was barely mentioned, buried in the notes. I actually made the decision to trim my holdings a bit, a smart move, but a dumb move that I didn’t sell out completely. Over the following 4 months I watched it collapse lower as the covenants became an increasing issue. The company was forced into multiple capital raisings just to service the debt, along with a big restructuring. It looked cheap much of the way down on an earnings basis, and it wasn’t a large position for me at this point (due to dropping so much) so I held out hope of some sort of recovery. Eventually, in early January I cut my losses and sold my remaining position as I realised I had much better opportunities elsewhere.
At the end of the day my average purchase price was around $1.25, while my average sale price came to around 35 cents representing a 70% drawdown in what ended up a 15% position for me. A brutal lesson, but what did I learn? I’m going to go over my key takeaways from this awful experience.
Circle of Competence Matters
You don’t know what you don’t know. When you’re operating outside your circle of competence not only are you at higher risk of poor stock picking, but you’re at higher risk of compounding that poor stock picking through poor decision making. When you’re operating within your circle of competence you can accurately judge risk and how to size based on that risk. You can better make decisions around selling or doubling down based on changes and new information.
There was a lot to learn about management from this experience. Firstly, while insider ownership ensures alignment of incentives, it doesn’t defend against incompetence. Listen to what management are saying, and if you disagree with their decision making or vision then cut the business. Furthermore, beware overly promotional and positive management. Find management who will be real with you. Finally, beware overambitious management. Empire building often may be in the best interest of the CEO, but not of the shareholders.
This was my first time watching a debt spiral first hand. John Hempton has a really good piece on when to average down and a key takeaway is not to average down in a high leverage situation. If a profitable, low debt stock drops 50%, its future cash flows are 50% cheaper. There is no floor in value for heavily leveraged stocks, so no downside protection when averaging down. If a heavily leveraged stock drops 50% it’s likely the market telling you something about it’s future ability to service that debt.
There were 3 separate times during this ordeal where I considered selling. Each time my thesis was cracking and each time my reasons turned out to be completely justified. When I see cracks emerging in my thesis, run. While I might miss out sometimes, I will also avoid the big drawdowns. Selling too early will never lose you money, selling to late might.
I hope this has been an interesting and worthwhile read for you. While awful to experience, it has significantly impacted and improved my investing as I seek to avoid the embarrassment of making similar mistakes again. I’m sure I will make plenty more mistakes over time, but hopefully I will continue learning and improving and make less as time goes on.