Tech-Enabled Service Transition Will Attract And Retain Clients In Brazil's Financial Sector

Key Takeaways

• XP's tech-enabled platform and transition to service provision are set to increase revenue and enhance net margins by attracting and retaining clients.
  
• Effective capital management and strategic investments in sales and corporate services bolster earnings growth and support shareholder value.
  
• Increasing competition, regulatory changes, and current economic conditions pose challenges to XP's market share, profitability, and near-term earnings potential.

Catalysts

Provides financial products and services in Brazil.

• XP's strategic focus on enhancing its tech-enabled platform and offering financial planning services to a broader client base, starting from those with R$300,000 and above, is likely to increase revenue by attracting more clients and deepening existing relationships.
  
• The company’s transition from a product distribution firm to a service provider, coupled with a complete product platform, positions it to improve net margins by offering higher-value services and increasing product penetration across its client base.
  
• XP's strong capital management strategy, including targeting a BIS ratio between 16% and 19% and a more than 50% payout in the next two years, supports earnings growth, enhancing shareholder value through dividends and share buybacks.
  
• Continued investments in expanding its adviser network and internal sales force are anticipated to boost sales and thus revenue, while cost discipline is expected to maintain or reduce net margins.
  
• The company's efforts to strengthen its wholesale and corporate services, including a robust pipeline in DCM and leading positions in REIT issuance and derivatives, are expected to enable revenue growth and maintain profitability margins in its institutional business segment.

XP Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming XP's revenue will grow by 16.0% annually over the next 3 years.
• Analysts assume that profit margins will shrink from 27.5% today to 25.2% in 3 years time.
• Analysts expect earnings to reach R$6.2 billion (and earnings per share of R$11.64) by about December 2027, up from R$4.4 billion today.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 2.5x on those 2027 earnings, down from 9.1x today. This future PE is lower than the current PE for the US Capital Markets industry at 23.4x.
• Analysts expect the number of shares outstanding to remain consistent over the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 10.86%, as per the Simply Wall St company report.

XP Future Earnings Per Share Growth

Risks

• The high level of competition from large banks advancing their open investment platforms and employing internal financial advisers could put pressure on XP's ability to maintain their market share and potentially impact their future revenues.
  
• The current macroeconomic environment with high interest rates and tax-exempt products is advantageous for incumbent banks, which may pose challenges for XP's profitability if this trend continues.
  
• The slowdown in the corporate securities warehouse growth rate could limit XP's revenues if the balance between credit and market risk is disrupted or if warehousing becomes less competitive.
  
• Potential regulatory changes, such as those impacting risk classification and capital requirements, could increase compliance costs and impact XP’s net margins.
  
• The lagging effect on revenue from certain new initiatives like life insurance and retirement plans means that immediate revenue impact is limited, potentially affecting near-term earnings expectations.

Valuation

• The analysts have a consensus price target of R$21.64 for XP based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of R$30.77, and the most bearish reporting a price target of just R$15.67.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2027, revenues will be R$24.8 billion, earnings will come to R$6.2 billion, and it would be trading on a PE ratio of 2.5x, assuming you use a discount rate of 10.9%.
• Given the current share price of R$11.91, the analyst's price target of R$21.64 is 45.0% higher.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.