Fintech Upstart Faces SEC Scrutiny Over AI Disclosures

Upstart Holdings Inc., a prominent financial technology lender, finds itself under the regulatory spotlight as the Securities and Exchange Commission (SEC) issues a subpoena concerning its disclosures, particularly regarding its artificial intelligence (AI) models and loans.

The company disclosed on  May 8, 2024 that it had received the subpoena from the SEC on November 17, 2023, and affirmed its cooperation with the regulatory body. Upstart expressed uncertainty about the outcome of the matter in a securities filing, emphasizing its commitment to addressing the regulatory inquiry.

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The SEC's scrutiny of Upstart is part of a broader examination of companies' utilization of AI, with the agency proposing restrictions in the previous year. Concerns have been raised regarding potential biases or flawed criteria in AI-driven underwriting processes, which could result in adverse outcomes. Other financial regulators have also been evaluating the use of AI in underwriting, while non-financial companies are also being scrutinized by agencies like the Federal Trade Commission.

Upstart's disclosure was integrated into its quarterly earnings report, revealing that 90% of its unsecured loans were fully automated, underscoring its reliance on AI-driven processes for loan approvals. CEO Dave Girouard emphasized during a call to discuss results that the company's operations involve no human intervention in processing loan applications, highlighting the efficiency and speed of its AI-driven approach.

However, despite its AI-driven model, Upstart faced a setback as its shares tumbled 5.6% on May 8, 2024, following its earnings report release, which included a revenue forecast below analyst expectations.

Founded in 2012, Upstart emerged as one of several consumer-facing startups that flourished during the pandemic, offering borrowers quick personal loan approvals through AI technology. However, the sector has encountered challenges recently, attributed to high interest rates and traditional banks retreating from purchasing their loans amidst a sector-wide crisis.

In 2023, Upstart struck agreements to sell consumer installment loans, totaling up to $4 billion, to Castlelake LP and sold a $300 million loan portfolio to Ares Management Corp. Private credit firms have increasingly invested in consumer debt, bolstering Upstart's position in the market.

Despite recent challenges, Upstart remains optimistic about its future prospects. Girouard stated during the call that the situation has improved, with banks, credit unions, and investors experiencing reduced stress. The company anticipates a return to positive earnings before interest, taxes, depreciation, and amortization later in 2024, signaling its resilience and commitment to long-term growth.