StoneCo Ltd (NASDAQ: STNE) witnessed a significant decline in its stock price today, plummeting over 10% after Morgan Stanley downgraded the stock from Equal Weight to Underweight and slashed its price target to $7 from $16.50.
This cut implies a potential downside of more than 40% from its current trading levels, reflecting the market’s pessimism toward the company’s near-term prospects.
The downgrade was primarily driven by concerns over market saturation in the Brazilian digital payments sector, where StoneCo operates, and the expectation of a substantial slowdown in payment volume growth.
Morgan Stanley’s outlook starkly contrasts the broader consensus, which had anticipated continued double-digit growth in StoneCo’s net income.
Morgan Stanley’s downgrade comes when the firm believes Brazil’s digital payments market has matured, reducing opportunities for further expansion.
The analyst expressed concerns about the sustainability of StoneCo’s profitability, highlighting that merchant acquiring growth and overall profitability might face significant headwinds.
The report suggested that the market underestimates the challenges posed by this saturation and the pressure it could exert on StoneCo’s earnings over the next several years.
Consequently, Morgan Stanley has adjusted its long-term earnings estimates for StoneCo significantly downward, with expectations now standing 50%-60% below consensus estimates.
StoneCo’s Q2 earnings
This downgrade overshadowed what had been a relatively strong performance in StoneCo’s second quarter of 2024.
The company reported revenue of R$3.21 billion (approximately $586 million), which exceeded analysts’ expectations and marked an 8.5% year-over-year increase.
This growth was driven by a robust 10.6% increase in financial services revenues, reflecting consistent growth in the active client base and higher client monetization.
StoneCo’s adjusted earnings per share (EPS) also beat estimates, coming in at R$1.61, up from R$0.98 in the same quarter last year.
The company’s total payment volume (TPV) grew impressively, rising by 21.6% year-over-year to R$126.1 billion, with the MSMB segment contributing significantly to this growth.
Despite these positive results, concerns remain regarding the company’s cost structure which has been under pressure, with costs rising sharply by 22.8% year-over-year, driven by higher provisions for doubtful debts and increased logistics and technology expenses.
While the company has reduced administrative expenses by 15.9%, the pressure on margins remains a critical concern.
The adjusted EBITDA margin, though slightly improved to 49.5%, reflects these cost challenges, which could persist if the company faces headwinds in its core markets.
StoneCo’s non-performing loans
One of the most troubling aspects of StoneCo’s recent performance has been the increase in non-performing loans (NPLs).
The company’s credit portfolio saw a rise in NPLs, particularly in the 15-90 days and >90 days categories, which increased by 66 and 113 basis points, respectively.
This uptick in NPLs is worrying, especially given StoneCo’s history of challenges with its credit operations.
The rising defaults could indicate underlying issues with credit quality, potentially leading to higher future losses, which may further strain the company’s financial health.
StoneCo’s management has taken steps to mitigate some of these challenges.
The company has focused on expanding its higher-margin products and improving cost management processes.
This strategy has helped StoneCo maintain its profitability, as evidenced by the 54% year-over-year increase in net income during the second quarter.
Additionally, the company’s ongoing share buyback program, supported by a solid cash position, could provide some support to the stock price in the near term.
However, these efforts might not be enough to offset the broader challenges facing the company.
The downgrade from Morgan Stanley reflects a growing skepticism about StoneCo’s ability to navigate the increasingly competitive and saturated Brazilian payments market.
StoneCo’s valuation
From a valuation perspective, StoneCo’s current metrics do not provide much comfort to investors.
Despite the recent decline in stock price, the company’s price-to-earnings (P/E) ratio remains close to the sector average, offering little margin of safety.
The stock’s valuation appears stretched, particularly when adjusted for the expected slowdown in growth and profitability.
While the company has shown resilience in maintaining revenue growth, the combination of rising costs, increasing NPLs, and a saturated market environment poses significant risks to its long-term valuation prospects.
To gain deeper insights into what might come next for StoneCo’s stock, it’s essential to turn to the technical indicators.
By analyzing the charts, we can explore whether the recent downdraft is signaling further declines or if there’s potential for a rebound, providing a clearer view of the stock’s potential trajectory in the coming weeks.
StoneCo: Technical analysis
StoneCo’s stock more than doubled in price between October and December last year but started drifting downward since the start of this year.
Source: TradingView
The stock stands at a critical juncture today as it opened below its medium-term support near $11.50.
Unless the stock manages to reclaim that level decisively and give a weekly closing above it, things are looking gloomy for the bulls.
If the stock doesn’t reclaim that level, it can fall back to $9.5 levels where it took support last year multiple times.
Traders looking to short the stock have a low-risk high-reward opportunity right now as they can short the stock near $11.7 with a stop loss near $12.24 and a profit target of $9.5.
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