(Bloomberg) – Massive interest rate hikes in Brazil are hampering the business model of fintech firms, including StoneCo Ltd., backed by Warren Buffett, and PagSeguro Digital Ltd., which offered cheaper loans and services than major banks and were growing at a breakneck pace. clip.
Bloomberg’s Most Read
The fintech industry, which has exploded in recent years with record venture capital investment and public equity sales, is suddenly facing a balance sheet as Brazil’s central bank hikes its key rate by nearly 10 percentage points in one year to fight inflation. This makes it more difficult to offer competitive rates on loans without jeopardizing already tight profit margins.
Financial costs for large banks like Itau Unibanco Holding SA and Banco Bradesco SA have not increased as much due to their larger and more diverse retail customer base, who often leave their money parked in bank accounts in exchange for returns below the base rate or not. return at all – something that large professional investors would generally not accept. Meanwhile, individuals in Brazil can pay up to 346.3% per year for credit card loans.
“Fintechs were born with one main advantage for customers: to charge less than the big banks,” said Cynthia Cohen Freue, chief analyst for financial services and banks in Latin America at S&P Global Ratings. “So for them it’s hard to pass on higher borrowing expenses to customers.”
The pandemic has accelerated the digitization of financial services everywhere, but especially in Latin America’s largest economy, where mobile and internet banking already account for almost 70% of transactions. A record $8.85 billion was paid out to startups nationwide in 2021 and the year was capped off in December with the highly anticipated initial public offering of Nu Holdings Ltd. which valued the digital credit card issuer at $45 billion, more than Itau or Bradesco at the time. Nubank, as the company is known, raised $2.8 billion in the IPO.
But the benign rate environment came to an abrupt end. Brazil’s annual inflation rose from less than 2% in May 2020 to 10.5% last month. Afraid of falling behind the curve, the central bank began to rally in March 2021, taking the benchmark rate to 11.75% in one of the world’s most aggressive cycles.
It is upsetting the balance sheets.
StoneCo, a merchant acquisition and payments technology company, more than tripled its financial spending in 2021 from a year earlier, to 1.27 billion reais ($270 million). Its financial income, meanwhile, increased by just over 14%, to 1.88 billion reais, as it delayed the increase in prices to customers.
“We didn’t want to hurt our customers with higher costs, which we thought we could absorb for a while,” Stone CEO Thiago Piau said in a March 17 earnings call. “But, in the end, the impact was too big in our bottom line and so we started reviewing our pricing in November.
This strategy helped the company end 2021 with 1.8 million customers, beating a forecast of 1.4 million, StoneCo said.
PagSeguro Digital Ltd., a competitor of StoneCo, reported financial expenses of 790.6 million reais in 2021, more than six times higher than a year earlier, while financial revenues increased by around 60%, to reach 3.7 billion reais, according to the filings.
In a statement to Bloomberg, the company said part of the increase in financial costs was due to growth in payment volumes, which reached 252 billion reais in 2021, 56% more than in 2020. PagSeguro has approximately 22 million retail customers using its digital. accounts and acquired a banking license in 2019 to further diversify its funding source, the company said.
Nubank also saw its financial costs more than triple to $367.3 million, according to filings. But interest income and gains on financial instruments increased almost in the same proportion, to more than $1 billion.
The company, also backed by Buffett’s Berkshire Hathaway Inc., has small business deposits that pay no interest rates and, like any credit card issuer in Brazil, receives payments from customers before payments to networks. Nubank can invest these two sources of liquidity to generate financial income.
By comparison, Itau, Brazil’s largest bank by market value, saw its spending on financial intermediation decline last year, by almost 10%. Bradesco, the second largest, posted an increase of less than 7%.
Brazil’s slowing economic growth poses an additional hurdle for fintechs as delinquency rates tend to rise and loan demand wanes. While this is a challenge for the entire financial industry, some newcomers are attracting customers with lower credit ratings than big banks as part of their aggressive growth business strategy, according to S&P Global Ratings. Banks can simply cut credit in tougher environments, while fintechs promise investors that they will continue to grow regardless of any contraction in GDP.
After growing around 4.6% in 2021, the Brazilian economy is expected to grow only 0.5% this year. October’s presidential elections pitting former President Luiz Inacio Lula da Silva against incumbent Jair Bolsonaro will also bring more volatility in the second half, while Fed rate hikes and the war in Ukraine add stress.
Those challenges are affecting prices for StoneCo’s $500 million bond due in 2028 — its yield has jumped about 100 basis points this year to 7.2%.
The poor performance in bonds also reflects some of StoneCo’s own challenges – it halted lending to small and medium-sized businesses in October after a bad experience and its adjusted net income fell 79% in 2021. Meanwhile, its main competitor Cielo SA, owned by Bradesco and Banco do Brasil SA recorded a 98% increase in net profit.
“The problem is not that interest rates are so high, because Brazilians are generally used to higher rates, but the rate at which they have increased recently,” said Bloomberg Intelligence analyst Diksha Gera. “Fintechs will have to compromise on pricing if they want to focus on expanding customers.”
Bloomberg Businessweek’s Most Read
©2022 Bloomberg LP