Robinhood Markets Inc. (HOOD, Financial) is a leading online brokerage company that operates an app-based cloud platform supported by its own developed proprietary technology. The company offers several financial services, such as cryptocurrency trading, dividend reinvestment, fractional shares, recurring investments and initial public offering access.
On Wednesday, the company's second-quarter financial results showed a surprise profit, but this did not fuel a rally as the shares were down nearly 6% in after-hours trading. A closer look at the earnings suggests investors should be cautious after strong gains of nearly 53% year to date.
Second-quarter earnings highlights
Robinhood reported second-quarter earnings per share of 3 cents, which topped expectations of a loss of 1 cent. Revenue rose 52.8% from the prior-year quarter to $486 million, beating the consensus of $472.9 million.
The biggest news, though, was that the company had its first profitable quarter since its initial public offering in 2021, posting net income of $25 million.
Further, net interest revenue soared 243% to $442 million, while assets under custody increased 13% sequentially to $89 billion and average revenue per user rose to $84 from $77 in the first quarter.
On the negative side, its number of monthly active users decreased by 1 million sequentially to 10.8 million, transaction-based revenue fell 7% sequentially to $193 million and cryptocurrency revenue declined by 18% to $31 million.
Management's take
Robinhood’s top management overall was very satisfied with the financial performance for the quarter.
In prepared remarks, co-founder and CEO Vladimir Tenev said, “In Q2, we reached a significant milestone by achieving GAAP profitability for the first time as a public company. Guided by our bold product roadmap we’re continuing to innovate for our customers, grow assets, gain market share and change the industry for the better."
Chief Financial Officer Jason Warnick also commented on the company's quarterly performance.
“Reaching GAAP profitability is a testament to the work our team has done to transform the business and better position Robinhood to drive shareholder value,” he said. “With five consecutive quarters of revenue and adjusted Ebitda growth, we’re continuing to drive efficiency across our operations while investing in customer experience. Looking ahead, we remain focused on delivering for customers and growing our business.”
Business model weaknesses and risks
Robinhood Markets' business model has several weaknesses and risks, including a dependence on payment for order flow, increased competition and user churn.
First, payment for order flow, or PFOF, is the primary way Robinhood makes money, which is a somewhat controversial practice as some critics argue that it gives market makers an unfair advantage over other investors and that it can lead to higher prices for consumers.
The company is not the only online brokerage that offers commission-free trading, though. As competition in the industry increases, it may face pressure to reduce its fees or offer new features in order to attract and retain users.
While Robinhood's user base has been growing rapidly, it is also experiencing high churn rates. This means that many users are signing up and then quickly leaving the platform. If the company is unable to retain its users, it could harm its business in the long run.
Some additional risks Robinhood faces as a platform business include changes in market conditions, new technologies and regulatory changes.
The stock market is a volatile place, so changes in market conditions can have a significant impact on Robinhood's business. For example, if the market experiences a prolonged downturn, the company could see a decline in trading volume and revenue.
The financial technology, or fintech, industry is constantly evolving, and new technologies could pose a threat to its business. For example, if a new platform emerges that offers even lower fees or more advanced features, Robinhood could lose market share.
The regulatory environment for fintech companies is constantly changing as well, meaning Robinhood could be subject to new regulations that could make it more difficult to operate. For instance, if new regulations require the company to provide more disclosures to its users, it could be forced to increase its costs.
As such, Robinhood will need to be vigilant in addressing these risks to maintain its position as a leading online brokerage.
Fundamental warning signs
There are several fundamental warning signs for Robinhood that investors need to be aware of.
First, the company has a low Piotroski F-Score of 3 out of 9, implying poor business operations. The Altman Z-Score of 0.38 is also in the distress zone, meaning bankruptcy is a possibility in the next two years. Its revenue per share has been in decline over the past 12 months as well.
Further, Robinhood has a low profitability rank of 2 out of 10, but a moderate rank for financial strength at 6 out of 10.
While reaching profitability is something to celebrate, I would argue that it is too early to get excited due to the decline in users as well as transaction-based revenue as more headwinds could be ahead. So investors should be cautious for now.
