PAGS

Why PagSeguro Plunged Today

What happened

Shares of Brazilian fintech PagSeguro Digital (NYSE: PAGS) were plummeting on Wednesday, declining about 18% as of 1:28 p.m. ET.

The company, which is a payments processor for small and medium-sized merchants in Brazil, as well as a digital bank for Brazilian merchants and consumers alike, reported third-quarter earnings today. Apparently, Wall Street wasn't enthusiastic about the results, despite some bright spots in the report.

So what

In the third quarter, PagSeguro's revenue rose 45% to just over 4 billion reals, which seems like a strong result, given all of the economic headwinds in Brazil and across the world.

However, investors may have soured on the report when looking further down the income statement to the bottom line. Gross profit grew at a much slower 7% pace, adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) grew just 4%, and non-GAAP (adjusted) net income actually declined 2%.

On the gross profit side, PagSeguro continues to be hurt by the rapidly rising interest rates in Brazil. The company's finance costs ballooned 339% over the prior year, as the company's funding costs are determined by the Brazilian Basic Interest Rate (SELIC) -- akin to the U.S. federal funds rate -- which has skyrocketed over the past year as Brazil's central bank has contended with high inflation.

While PagSeguro is passing along higher interest rates to its merchants and consumers, it does so with a lag, so as to not overly stress its customers. Therefore, in an environment of rapidly rising rates, its net interest margin will likely compress.

Another worrying sign was a 110% rise chargebacks, or the costs of reimbursing merchants for fraudulent transactions as well as loan chargeoffs on PagSeguro's credit card products. The company says this is due to the increased use of its credit card product, as its digital PagBank segment has grown. However, the increase was still larger in percentage terms relative to PagBank's total payments volume, which was up 79%, as well as the growth of the credit portfolio, which was up 71%.

Now what

PagSeguro may be interesting after its big decline today, as the stock now only trades at just about 11 times this year's projected adjusted earnings.

The company also has a few positives going for it, as it should continue to raise take rates to merchants and interest rates on its loans to catch up with finance costs. Furthermore, management was quick to point out that PagSeguro is actually taking market share from among other fintechs within Brazil's growing economy.

Of course, there are also other positives that could happen. The value of the U.S. dollar has surged this year, making overseas revenue worth less to U.S. investors. Should that reverse, PagSeguro's stock could benefit from the increasing relative value of the currency.

Yet investing overseas also comes with risks. There are lots of U.S.-based fintech companies that also look extremely cheap right now, so PagSeguro isn't alone in its low valuation at the moment. Yet for those looking to play a reversal in interest rates and the economic outlook through beaten-down fintech stocks, PagSeguro belongs on your watch list as well.

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Billy Duberstein has no position in any of the stocks mentioned. His clients may own shares of the companies mentioned. The Motley Fool has positions in and recommends PagSeguro Digital. The Motley Fool has a disclosure policy.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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