Robinhood, the new face of investment that is most talked about on Wall Street, announced its plans to go public through the Initial Public Offering (IPO) route. The renowned zero-commission trading platform, founded in 2013 by two Stanford alumni Vladimir Tenev and Baiju Bhatt, with an aim to provide financial trading access to every individual in the U.S. has helped over 12.5 million Americans take greater control of their financial lives. The company plans to list on the Nasdaq with the ticker “HOOD” on July 29th and nearly 50% of all new U.S. retail accounts activated in the last 5 years are on its platform. It is one of the most anticipated IPOs to date after a group of retail investors attempted to blow out some of Wall Street’s top hedge funds, by investing in GameStop (GME) stock through the platform.
The new wave in the digital world
The pandemic has changed the investing style of many retail and new investors in a world where Crypto.com is beating Wells Fargo. Chime is ahead of Bank of America and Robinhood is beating out Chase. Investors are no longer looking at a big bank or an advisor to handle their portfolios when they have options like Robinhood to access the markets and are supported by digital wallets for mobile banking. A look into the company’s IPO filings paints a clear picture of keeping to its mission to “democratize finance for all” that has ushered in a new generation of investors, unlike the traditional brokerage firms.
Products and service offerings
The company currently offers the following services
- Trading in over 5000 U.S listed stocks and ETFs, Options trading and American Depositary Receipts (ADRs)
- Cryptocurrency trading allows investors to trade in seven digital currencies including Bitcoins, Dogecoins, Ethereum and Litecoin. Robinhood customers hold about $11.5 billion in Cryptocurrencies.
- Fractional trading with no account minimums gives access to high-value stocks that were previously out of reach to investors.
- Robinhood Gold is a paid monthly subscription that includes various benefits like access to margin funding, instant settlement of deposits, professional research, Nasdaq Level II market data and also extended trading hours for Gold customers. This is basically a margin account that gives customers up to two times (account balance) the buying power depending on which tier the customer pays for.
- Cash Management includes the company’s debit cards which enable customers to save and spend by paying bills, earning competitive interest rates along with receiving Federal Deposit Insurance Corporation (FDIC) pass-through insurance on uninvested customer cash.
How does Robinhood make money?
There are three ways Robinhood generates revenues –
Transaction-based revenues
Robinhood does not charge any money for the trades which take place on its platform instead it makes most of its revenues by routing customers’ equity, option and cryptocurrency trade orders to the big Wallstreet trading firms like Citadel Securities rather than to the New York Stock Exchange (NYSE) or Nasdaq. These trading firms in return pay Robinhood a fee for the flow of orders or executed orders which are called “Payment for order flow” or PFOF. The transaction-based revenue segment is the key revenue driver for the company and accounted for 75% of the total revenues in 2020 and 81% of the total revenues in Q1 2021. (Exhibit 1)
Net interest revenues
This includes interest revenues earned on security lending transactions, on margin loans and on cash and cash equivalents.
Other revenues
This primarily consists of Robinhood Gold monthly paid subscriptions.
Exhibit 1: Q1 2021 Revenue break-up by segments
Data as of July 2021|Source: Robinhood IPO, Flowbank.com
Key takeaways of the IPO and the company financials
- The company which goes public next week on July 29, under the ticker “HOOD” is looking for a valuation of up to $35 billion and hopes to price 55 million shares in the range of $38-$42 per share and likely to raise about $2.3billion if the stocks sell at the high end of the price range.
- The company expects to offer up to $770 million worth of shares to its customers through its platform at an offer price of $40 per share.
- Goldman Sachs and J.P. Morgan are the book-run lead managers for the issue.
- Meanwhile, the VC unit of Salesforce.com has indicated to buy up to $150 million of Robinhood shares at the IPO price.
- The IPO filing with the SEC comes a day after the US regulator FINRA fines Robinhood $70 million for causing widespread and significant harm to its users and customers.
- Underwriters will reserve 20-35% of their Class A (with 1 vote apiece) shares to Robinhood customers at the same IPO price while the Class B shares (with 10 votes apiece) will be controlled by the founders.
- The company reported total revenue of $959 million in 2020 as against $278 million in the previous year which was a whopping 245% year-on-year growth largely driven by new retail investors and net income grew to $7 million compared to a net loss of $107 million in the same period.
- The company has a total of 18 million net cumulated funded accounts which has grown from 5 million accounts in 2019 and around 17.7 million Monthly Active Users (MAU) as of Q1 2021.
- Additionally, Robinhood also has a total of 32 million newsletter and podcast subscribers with podcasts downloaded nearly 40 million times in 2020.
- About half of Robinhood users are first-time investors and the median user age is 31 years old with an average account size of $5,000 and total assets under its custody of $80.9 billion as of Q1 2021.
Shareholders
The company’s top Shareholders include venture firms like DST Global, Index Ventures, New Enterprise Associates and Ribbit Capital. Each of these companies owns more than 5% of the company. Additionally, the company has raised $5.6 billion in funding which is valued at $11.9 billion as per the Pitchbook report.
Inside Robinhood’s growth engine
2020 a turnaround year for Robinhood
The company saw unprecedented growth at the start of the pandemic; largely driven by millennials and Gen Z investors who increasingly saw huge opportunities in the beaten-down and Meme-stocks. The increased number of retail participation on the platform was anything but smooth as the company’s trading app crashed three times in a single week when markets saw a free fall and trading halts in early March 2020 at the start of the pandemic. However, these turbulences didn’t stop the retail traders from placing their orders which is quite evident in the company’s revenue and active user growth in 2020 (Exhibit 2). The graph below with key performance metrics of Robinhood shows exponential growth in revenues and net profit in 2020 as against the losses in the previous years.
Exhibit 2: Key Performance Metrics (Full-year 2017-2020)
Source: Company’s S-1 filings
Revenues more than quadruple in Q1 2021 driven by the new generation of investors
Over 80% of the company’s revenues are generated from transaction-based revenues coming in by way of Equities and options trading. The Average Revenue per User (ARPU) increased from $82.9 in Q1 2020 to $137 in Q1 2021. While Robinhood has been advantageous to new investors with limited capital by allowing fractional investing, that’s not its biggest business. Instead, it’s the speculative options trading that saw a huge uptick since the pandemic and in early 2021 among the YOLO (You Only Live Once) traders or the new generation traders who are willing to take that extra risk on cheap, about-to-expire stocks in options which are most talked upon on Reddit and Wall Street bets. (WSB)
Exhibit 3: Revenues for Q1 2019- Q1 2021
Source: Data taken from Company’s filings
A record 18 million funded accounts in Q1 2021 from 5 million in 2019
Robinhood came under the scanner for its trading practices during the early days of the Gamestop (GME) and retail trading frenzy, when the company suspended trading of certain stocks. But these controversies didn’t seem to come in the way of the company’s growth when the company saw a whopping 5.5 million net new funded accounts in Q1 2021 adding to a total of 18 million funded accounts (Exhibit 4) and that’s the number which took the company almost 7 years to achieve previously between 2013-2019.
Exhibit 4: Total net cumulated funded accounts as of Q1 2021
Source: Company’s S-1 filings
Higher Monthly Active Users (MAU) attributed to options and crypto traders in Q1 2021
Revenues grew to $522 million with a growth of over 300% year-on-year in Q1 2021 which was mostly driven by Options and Equity trading on the platform. However, the demand for Cryptocurrencies increased during the quarter which contributed to 34% of the transaction-based revenues as compared to 4% during Q4 2020. Options trading added to 38% and Cryptos added about 17% of the total Q1 transaction-based revenues. The company saw a significant rise in Daily and Monthly Active Users (MAU) on the platform in Q1 2021. (Exhibit 5)
Exhibit 5: Daily and Monthly Active Users on the Platform
Source: Company’s S-1 filing
Assets Under Custody (AUC) grew over 300% year-on-year in Q1 2021 with an increased share of options
The total assets under custody (AUC) saw over 300% growth year-on-year to $80.9 billion in Q1 2021. Equities contribute to the majority portion of the platform adding up to 80% of the AUC. However, there has been a significant increase in Cryptos to the proportion of Q1 AUC which increased from a mere 2.5% in Q1 2020 to 14.3% in Q1 2021.
Exhibit 6: Assets Under Custody (AUC) Year-on-year 2020-2021
Source: Data taken from the Company’s Financials
Robinhood attracts more traffic than its competitors
Robinhood has successfully penetrated the retail investing market with its platform receiving increased traffic than any traditional retail brokerage. The increased traffic is seen in January 2021, when the Gamestop saga occurred and this upward trend continued in February before slowing down in March. The platform received over 200 million visits each in both Q1 and Q2 as compared to its competitors. (Exhibit 7)
Exhibit 7: Traffic on several investing platforms (Oct 2020-June 2021)
Data as of July 14, 2021, | Source: Nasdaq.com
Monthly Active Users are also higher for Robinhood than its peers
When we look at the company’s Monthly Active Users (MAU) as compared to its close competitors like Webull, M1 Finance, TD Ameritrade or even Coinbase; Robinhood has seen multifold growth on its platform driven by retail traders. However, its scale of operations in terms of customers or assets managed is still small as compared to Big players like Charles Schwab or Fidelity who cater to institutional clients. Additionally, the company faces competition from several other new trading platforms that constantly attract investors with interesting features and gamification on the platforms.
Exhibit 8: Monthly active users on various platforms
Source: Data taken from the respective Company Financials
Risks to business
Trading volumes are mostly generated from first-time investors
The company saw a significant increase in the number of accounts opened by first-time investors in the first half of 2020. The company’s future profitability is likely to be elusive in times when the pandemic is behind us and people are most likely to spend less time looking at stock tickers on their app or closely watching the Reddit bets.
Increased operational costs
Increased revenues/volumes come with higher operational costs and Robinhood is no exception. Q1 2021 operational costs accounted for almost 88% of the revenues and the costs were up over 150% year-on-year to $464 million. Higher operating costs were attributed to increased costs involved with Technology, marketing spends and administrative costs which could likely impact the EBITDA and net income of the company going forward.
Exhibit 9: Revenues and Operational costs for Q12019-Q1 2021
Data as of July 2021|Source: Bloomberg.com
Extremely volatile prices of the Cryptocurrencies
Crypto prices have been extremely volatile and make it difficult for traders to time the market. Bitcoins which are the most traded crypto on Robinhood’s platform by notional value was worth over $54 billion in Q1 2021 as compared to approximately $8 billion in 2018 when crypto trading was introduced on the platform. The total Assets Under Custody (AUC) attributed to cryptocurrencies is $11.6 billion at the end of Q1 2021 which is around 15% of the total Assets Under Custody (AUC) for the company. So, the volumes of these digital currencies are directly linked to the prices of the cryptos.
Revenues are linked to investor interest in Crypto and MEME stocks
The company’s crypto revenues and reliance on bubbles in some meme-stocks like Gamestop, AMC which burst retail investors in a short-squeeze frenzy earlier this year are directly related to the volumes of business of the company. Cryptocurrency trading on the platform was booming in Q1 with around 17% of total revenues coming in from transactions related to Cryptos. The company’s one-third of the revenue from the crypto-currency trading in Q1 2021 came from Dogecoin. If you look at the graph below showcasing the Robinhood app downloads (on the right axis) and the price of Dogecoin and the Gamestop (GME) (rescaled to fit on the left axis) during the first half of 2021; it shows that the app downloads around the time when Dogecoin prices soared and the same was the case during meme-stock rally like Gamestop. This explains that the investors bought Dogecoin when the prices were high and lost money. It is estimated that they lost about 40% of the money from Dogecoin’s recent rally when they entered at higher prices.
Exhibit 10: Robinhood app downloads vs. Meme price vs. Dogecoin price
Data as of 2 July 2021|Source: Boundedfinance.com
Regulatory scrutiny
The company has been in several controversies many times as criticism from regulators started mounting up when Robinhood agreed to pay more than $130 million in the recent past to settle accusations by regulators along with the most recent one of $70 million from the U.S. regulator FINRA.
Final Thoughts
Robinhood rode a wave of new user growth as the pandemic transformed the investing style of U.S. investors. The next generation of investors is a lot younger with a median age on the platform being 31 years and are more diverse than ever before. The prospects of no-fee mobile investing are probably what drove millions of investors to Robinhood and increased its brand image among retail investors. Robinhood’s listing gives 2021’s IPO market another boom with companies (including SPACs) that have raised more than $210 billion on the U.S. exchanges this year and makes it the busiest year on record for the IPO market.
