Description

INVESTMENT THESIS/OPPORTUNITY

Northern Star Investment Corp II purchased Apex Clearing in February valuing the company at an enterprise value of $4.6B with a pipe led by Fidelity, Baron Capital, Coatue, and Winslow Capital Management. The company is a high quality asset whose stock is being held down by a glut of SPACS in the market, lack of sell side coverage to highlight the opportunity, and by the negativity towards SPACS in general.  Apex clearing provides a leading-edge platform that makes it a trusted partner for a broad spectrum of clients, from industry disruptors like Sofi, Stash, WeBull, and eToro, to more traditional companies like Franklin Templeton and Marcus by Goldman Sachs.  Apex is disrupting the industry and you don’t need to bet on a winner among the fintechs and financial companies they service given Apex is the “arms dealer” to the industry.  Apex is not a pre-revenue SPAC with management projecting aggressive hockey stick growth, rather they are a conservative management team behind a durable and highly profitable growth company.  Apex grew revenues 73% in 2020 with 36% EBITDA margins, and its first 6 months of revenues in 2021 are annualizing at 86% growth with 42% EBITDA margins.  These annualized numbers have so far blown away their 2021 guidance and are actually exceeding their guidance for 2023.  In addition Apex is a beneficiary of rising rates and is highly levered to the front end of the curve.

The upside potential of this undiscovered stock is significant.  We see ~75% upside over the next year at reasonable multiples for this high growth, highly profitable company.

COMPANY DESCRIPTION

Apex provides custody, clearing and settlement for other fintech, online brokers, RIAs and traditional brokers.  The company is the “fintech for fintechs”, providing a modern, mission critical suite of solutions to its clients.  Apex pioneered the development and enablement of solutions that drive the digitalization and democratization of financial services today including robo investing, commission-free investing, automated account opening, fractional share trading, seamless crypto trading, among other market-first offerings.  Apex’s technology platform is cutting-edge, flexible and scalable. Unlike peers that are beholden to legacy technology stacks, the company’s platform is modern and nimble. For example, whereas traditional brokerage account opening is measured in days (typically 5-7 days), Apex’s paperless, all-digital account opening is measured in seconds (typically around 10 seconds).  Apex connects to clients primarily through real time API-based protocols, which are highly efficient and facilitate clients’ speed to market and ongoing innovation.  Custody and clearing is a scale-driven business with high barriers to entry, including expansive overhead and technology costs, complicated capital and collateral management requirements, and a complex regulatory and legal environment. Legacy providers do not offer the combination of flexibility, speed, execution, and broad asset-class capabilities.

More than 200 clients rely on the APEX platform to support more than 14.6 million customers—including approximately 1.6 million crypto accounts as of March 31, 2021.

Apex is constantly innovating to provide the solutions clients desire, such as: individual account opening with no paperwork typically in 10 seconds rather than days, instant account funding instead of 3-5 days, real time fractional share trading, efficient basket trading, real time digital cash movements, a variety of account types, access to lending capabilities for equities and cash and integrated cryptocurrency trading. The company continues to innovate, recently announcing T+0 settlement vs current industry standard of T+2 and the company is expecting to put out an NFT offering shortly.  Since 2016 Apex has only lost one client (Robinhood) involuntarily for reasons other than the shut-down of the client’s business.

Apex’s revenues can be broken into two buckets—transactional (~40% of revenues), which are those reliant on customer activity including trading and account opening, and recurring (60% of revenues), such as platform minimums, asset-based fees and margin and securities lending. 

INVESTMENT OVERVIEW

• SPAC market dynamics obfuscating some high quality businesses including APEX

• There are currently ~146 SPACS that have announced deals and 100s more that are searching.

• SPACS are generally out of favor given the bubble aspect of a huge velocity of IPO’s, short sellers going after vulnerable ones, and a few pre revenue companies that turned out to be likely frauds.

• However, we believe that there are some quality companies that are being overlooked which present asymmetric risk rewards.

• Despite being a high quality company, APEX is currently trading at trust value with the vote a couple weeks ahead presenting a good opportunity.

• Apex has materially exceeded the guidance they put out in February SPAC presentation

• Apex management team is conservative: their guidance assumed that trading activity went back to 2019 levels, customer growth would decelerate from 2020 levels, and they assumed the Fed does not raise interest rates.

• The company is annualizing revenue growth using 1H numbers at 86% which is significantly above the guidance of 23% growth and EBITDA is annualizing at 114% vs guidance of 23% growth with margins also well above expectation showing the scalability of the model.

• Furthermore, Apex’s revenues accelerated from $102M in Q1’21 to $117M in Q2’21 (we don’t yet have data to compare Q2’21 to Q2’20) and Q1 revenues increased 122% YoY

• As you can see the company is likely going to exceed its 2023 guidance this year

• Strong secular tailwinds driving rapid revenue growth for APEX

• The democratization of investing and innovation of products and technology is the main driver behind Apex’s growth. This is not only driven by the likes of Sofi, eToro, and Stash but by more traditional firms like Ally and Franklin Templeton who are trying to modernize their systems to compete with a flood of new entrants.

• Apex has a significant potential TAM, and the company’s continued rapid customer growth demonstrates the company has a highly competitive product vs legacy custodians.

• One notable customer win was Goldman Sachs Marcus earlier this year. 

• Goldman clearly had the resources to try to build a proprietary back-end system or go with a legacy custodian but they decided to go with Apex.

• NOTE: the head of Marcus recently left Goldman to go launch Walmart’s new fintech venture which could lead to Apex partnering with Walmart.

• Clearly the company’s strong momentum is accelerating in terms of new customer wins.   The table below shows client growth, and YTD they are close to the number of client wins they booked in all of 2020

• Moreover, client wins accelerated from Q1’21 to Q2’21.

• Client wins drive customer accounts which is the best proxy for future revenue, and while we don’t yet have number for 2Q21, the company grew customer accounts 38% over full year 2020 in the first quarter alone demonstrating rapid adoption

Apex’s client roster reads like a “who’s who” of next generation brokerage, asset management, and neobank firms -  

• Multiple levers for continued growth

• Increase client base 

• Expand platform capabilities

• The company expects to build upon their current offering as well as moving into new verticals including NFTs, fractional options and T+0 settlement.

• Geographic expansion

• With the money raised through the SPAC, Apex is expected to pursue accretive, complementary acquisitions. The company believes mass market adoption of stock and crypto trading is still in the early innings internationally (China and India in particular). 

• Robust margins with high incremental margins 

• While APEX is growing revenues at a rapid clip, the company is already highly profitable driven by the scale dynamics of their business with high incremental margins

• Apex had 36% EBITDA margins in 2020 and projected margins to continue to expand to 43% in 2023.

• However looking at the company’s reported numbers for the first 2 quarters of 2021, Apex is currently already generating 42% margin indicating significant incremental margins.

• Company will be flush with cash post deal and should generate significant cash given high margins and low capital intensity 

• Assuming no redemptions APEX will have ~$1B of cash

• Company expects to use the cash for investing in more engineers and for accretive, complimentary M&A 

• Apex has a deep moat

• Cost structure advantage

• Large trust banks and other competitor’s solutions are more limited and expensive for clients because of their legacy technology, analog processes, and less flexible architecture.  

• High barriers to entry / switching costs

• It’s difficult for new entrants to replicate Apex’s solution given the complexity and mission critical nature of a clearing business.   Similarly, it’s prohibitively disruptive to change providers (savings not worth the headache/risks/attrition).  Robinhood’s missteps are probably the best advertisement for Apex’s business.

• Several catalysts ahead

• Upcoming vote and despac

• Sell-Side analysts initiating coverage

• Company expects to raise guidance on their Q2 call in August given they have essentially hit their 2021 full year guide in the first half of the year.

• Rising rates: for every 25bps rise in Fed Funds, $10M falls to Apex’s bottom line according to management

• Potential for new, marquee customer wins (Walmart, PYPL, etc) and international expansion

• Launch of new offerings including NFTs, fractional options, and T+0 settlement.

VALUATION 

• Apex doesn’t have a perfect comp so below is a comparable valuation table including high growth Fintech companies and the online broker IBKR.  

• Apex is currently growing faster than all these peers and has higher EBITDA margins vs the majority of them

• Also note that eToro a company merging with the SPAC FCTV, is a customer of Apex and trades at a higher multiple than APEX based off its 2021 guide and is unprofitable. Also Sofi, another customer of Apex trades at ~14x 2021 revenues and is projecting to get to EBITDA positive next year.

• Assuming no redemptions, Apex has a $4.6B EV.  In a year, assuming 10-15x ~$700m in forward revenue and 20-30x EBITDA, would lead to a $15-$20 stock price.  These multiples are a greater than 50% discount to the companies listed below and only a modest premium to IBKR (despite much higher organic growth).  Hence, I can certainly see a scenario where the stock could trade better and get to my price target quicker than what I am suggesting.

KEY RISKS

• The largest risk is a large client leaving the platform like Robinhood did close to 3 years ago

• Mitigant: Apex technology stack and offerings have grown since Robinhood left making their product even stickier.  Furthermore, Robinhood took a multi $B hit earlier this year because they needed capital during the Meme rally while Apex didn’t have the same issues.  Robinhood was paying Apex $50M a year so they probably regret leaving now.

• Furthermore, Goldman Sachs Marcus could have gone with any firm or built in house technology and they went with Apex

Catalyst

• Upcoming vote and despac

• Sell-Side analysts initiating coverage

• Company expects to raise guidance on their Q2 call in August given they have essentially hit their 2021 full year guide in the first half of the year.

• Rising rates: for every 25bps rise in Fed Funds, $10M falls to Apex’s bottom line according to management

• Potential for new, marquee customer wins (Walmart, PYPL, etc) and international expansion

• Launch of new offerings including NFTs, fractional options, and T+0 settlement.