Why PagSeguro Plunged This Week

Shares of Brazilian fintech PagSeguro (NYSE: PAGS) fell 17.2% this week through Thursday trading, according to data from S&P Global Market Intelligence .

The rapid rise in interest rates over the past two years has caused not only U.S.-based fintech stocks to sell off but foreign ones as well. The pessimism is still high, as evidenced by PagSeguro's sell-off this week in spite of what looked like a solid earnings report. While revenue and profits rose, margin pressure and internal spending caused investors to see the glass as half-empty.

Seemingly stellar results

At first glance, it's difficult to see why PagSeguro's stock went down. Revenue surged 19.1% in the quarter, and earnings per share surged 31.5% to 1.68 Brazilian Reals, with both figures actually beating analyst estimates.

The company saw growth across many strategic initiatives. For reference, PagSeguro started out as a payment processor and acquirer for small and medium-sized businesses but has since expanded into serving larger businesses, as well as into banking, where it takes deposits and makes loans for payroll, working capital, and credit cards.

In the quarter, total payment volume (TPV) was up 34.2%, and "cash in" volumes -- essentially peer-to-peer payment volume -- was up 52.1%. On the banking side, deposits were up 87.1%, lowering the company's funding costs, while the loan book grew 10.9%, with decreasing delinquencies.

So, what was the problem? It might have had to do with the company's spending and capital allocation. On the conference call, analysts pressed management on a few points. One was the revelation that the faster-growing large business segment pays a lower fee and is thus lower margin than the company's traditional small-business customer. Second, management also noted that take rates for the core small and medium businesses came down slightly in the quarter -- perhaps a sign of creeping competition in this high-growth market.

Furthermore, the company's selling and marketing expenses exploded 42% higher, with the marketing side specifically growing 70%. While management maintained that it is seeing a good return on that spending, analysts may have preferred a share buyback, given the stock's low valuation, especially if increased sales and marketing spending is a defensive move to secure more lower-margin large customers.

PagSeguro looks like a bargain, but there are risks

These concerns may seem minor for PagSeguro, which still grew its EPS by over 31% in the quarter. Not bad for a stock that only trades at less than 11 times earnings after this week's sell-off.

However, remember that PagSeguro plays in the fintech and banking sector, which has seen multiples fall as recession and inflation fears have grown. Speaking of inflation, PagSeguro reports its growth figures in the Brazilian Real. So, for U.S. investors in PagSeguro, you are taking on the risk that the Brazilian currency could fall against the U.S. dollar.

On that front, the Brazilian Real has declined about 10% against the U.S. dollar this year, and about 25% over the past five years. Keep in mind that when investing in a Brazilian company, you need a company that can outgrow that currency headwind as well.

Billy Duberstein and/or his clients have no position in any of the stocks mentioned. The Motley Fool has positions in and recommends PagSeguro Digital. The Motley Fool has a disclosure policy .