Australia | Sep 30 2019
Afterpay Touch is on the threshold of a substantial market opportunity and brokers eagerly await several potential positive catalysts.
-Frequency of use reflecting customer loyalty and credit quality
-Afterpay continues to broaden its service offering
-Full valuation and competition concerns limit some broker views
By Eva Brocklehurst
More and more, brokers are contemplating the exceedingly strong growth path ahead for payments company Afterpay Touch ((APT)). Several catalysts are expected before the end of the year including further news on new markets and verticals, an update on trends and number of merchant clients, as well as further details on the collaboration with Visa International.
Goldman Sachs calculates a $1.0trn market opportunity for Afterpay Touch and suggests frequency of use should drive strong operating leverage in the medium term despite the expenditure being undertaken to support growth.
Frequency of use trends in the US signal that 74% of the company's transaction value in June 2019 was from returning customers. Moreover, Australasian users that have been on the platform for three years are engaging in transactions over 20 times per annum.
This is the most important value driver of the platform, in the broker's view, reflecting loyalty and credit quality. Users cannot transact frequently if they default, or regularly end up paying late payment fees. This resonance with existing users is also likely to procure turnover in receivables.
Goldman Sachs does not forecast on the same basis but its modelling remains consistent with Afterpay Touch's numbers. Wilsons calculates an online and in-store share in Australasia of 20%, highlighting the company's first-mover advantage and brand recognition locally.
The company has broadened substantially, now servicing department stores, salons, health and travel industries while retaining its original depth in the fashion & beauty channel and a focus on the female millennial customer.
The in-store channel, launched in FY18, has grown rapidly with sales up over 315% in FY19 versus online sales growth of 78%. Goldman Sachs expects there are many more adjacent retail verticals but the core categories serve as a reasonable starting point for assessing the opportunity in the US and UK.
Competition?
Goldman Sachs remains conscious of the rising number of competitors, particularly as the most likely basis for competition will be to offer lower fee rates to merchants. Yet, in its assessment, the value to merchants will not be based on the fees being charged but on how many consumers are brought to the retailers' tables, and how frequently they engage.
Afterpay Touch has guided to total transaction value greater than $20bn by FY22 and Bell Potter estimates $29.1bn. The broker, not one of the seven monitored daily on the FNArena database, prioritises customer growth in its valuation methodology, particularly as gross margin and retention rates are healthy, maintaining a Buy rating and $41.61 target.
Goldman Sachs, also not one of the seven. does not apply an earnings multiple over the forecast period, assessing that the trends are consistent with an improvement in the quality of earnings which near-term PE metrics do not adequately capture.
The broker incorporates the option value in its analysis to account for a new market opportunity, as the company is actively seeking new markets. Goldman Sachs elects to upgrade to Buy with a target of $42.90.
US/UK
Afterpay Touch is launching in-store services in the US and UK markets. While these regions will be more competitive than Australasia, Goldman Sachs points out the company is at least as well resourced as many of its peers, and the size of these markets will allow more operators.
Wilsons has a 10% share slated for the US online market and 8% for the US in-store market. The broker acknowledges significant momentum in the US, with recent gains including brands such as Madewell, Haus Labs, Shiseido, Cie de Peau, Laura Mercier and Buxom.
The company received a boost in August, with its inclusion on the Apple Store as an "App of the Day". As a result, there appears to have been a deceleration in customer addition run rates in September in the US, although Goldman Sachs anticipates around 2.4m customers by the end of the month.
In the UK, Goldman Sachs believes the market can develop network effects more rapidly because of the population density and the skew to London and the south-east, which account for 27% of the population. London generates 22% of total UK GDP, according to reports the broker cites.
Clearpay, the company's brand in the UK, will be launching a mobile app shortly which Wilsons expects can drive market share. Wilsons assumes a 10% online market share in the UK and an in-store share of 6%.
The broker notes Afterpay Touch is up against a tough competitor in the UK, Klarna, which has a first-mover advantage. Citi, too, observes Klarna is spending heavily to convince UK shoppers they should use the Buy Now Pay Later service more often, which can only be of benefit to Afterpay Touch.
The question is whether Afterpay Touch will need to counter the Klarna campaign with increased expenditure of its own. Citi remains concerned that investment could be higher than the market is contemplating.
Wilsons, also not one of the seven, maintains a Hold rating with a target of $34.07, balancing the strong operating performance and momentum with a full valuation and some residual concerns that merchant fees may be pressured by competition.
Wilsons acknowledges finding the stock difficult to value, given the stellar growth rates and the continually expanding market, and believes that, in time, the company, along with its rivals, will have to evolve from a mono-line provider (Buy Now Pay Later) to a more holistic offering.
AUSTRAC Enquiry
The interim report from AUSTRAC (Australian Transaction Reports and Analysis Centre) has not found any money-laundering or terrorism financing on the company's platform to date. As a result, Bell Potter reduces its discount to valuation to -7.5% from -15.0%, assessing that the previous discount was excessive.
This is based on the expectation the outcome of the enquiry is not expected to detract from the growth profile, as there are no recommendations from AUSTRAC at this stage nor any immediate action. The final report is due one November 23 so the broker accepts no assumptions can be made regarding any recommendations.
Goldman Sachs takes no view on the outcome of the audit but notes it may have an impact on its business model ranging from nothing material to a fine to changes in compliance processes. FNArena's database has two Buy ratings and one Hold (Citi). The consensus target is $33.52, signalling -6.3% downside to the last share price.
See also, Afterpay Touch In The Box Seat on September 24 2019.
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