The COVID-19 pandemic altered the payment system worldwide and consumers widely preferred contactless and digital payments. According to the Banking for International Settlements, residents make more than 75 online payments per person, particularly in countries like the US, Sweden, and Australia where revenues from e-commerce accounted for over 1.5% of GDP. The Consumer Payment Survey Report as of March 2020 by The Reserve Bank of Australia mentioned that nearly 2/3^rd of consumer payments is now made with cards. Australians made ~10.6 billion card transactions in the financial year ending June 2020, an increase of 7.6% over the prior year. The accelerated digital shift saw a ~18.6% drop in ATM withdrawals cited in the report by the Australian Payment Network.

The closed-loop fast payment system has have been evolving rapidly in as much 55 jurisdictions and is projected to rise to 65. The emerging economies are early adopters to the new payment infrastructure than advanced economies. Australia showed rapid growth in transaction volume, with an annualized rate of ~12 fast payments per capita per year - clocked just in the second year of operations ahead of Denmark, Sweden, and the UK in a similar time frame. Growth in population and increased usage of mobile payment apps are some of the drivers as cited in the report by Banking for International Settlements.

Mastercard claims that ~85% of transactions by Australians are contactless during COVID-19. Online shopping gained popularity, particularly driven by millennials. Online shopping sales peaked in August 2020 and reached to ~$3.1 billion as shown by the Australian Bureau of Statistics. Online sales accounted for ~10% of total retail sales in Australia in November 2020. Card-based payment gained momentum, following the announcement by the Australian Payment Network to increase the card transaction limit from $100 to $200 in April 2020. For the first time in Australia, debit card transactions outpaced credit cards by value since the beginning of the pandemic. The value of debit card transactions stood at $35.75 billion as of November 2020 vis-à-vis credit card transactions of $26.57 billion.

Although debit cards served as a preferred method of direct payment, the need for contactless payments has risen rapidly. Australia is one of the leading adaptors of technology. The proliferation of new financial services’ companies brought innovative products in payment gateways such as Buy-Now-Pay-Later (BNPL), cryptocurrencies, and PayIDs. The increased awareness and ease of payments through mobiles and wearables saw higher adaption compared to other traditional payment platforms. According to data by The Reserve Bank of Australia, the new payment platform saw an increase of 76% in transaction value in November 2020 over the prior year.

Figure 1. Rapid Digitalization Saw Manifold Increase in Alternative Payment Platform:

Source: Data from Reserve Bank of Australia, Chart Created by Kalkine Group 

Payment Through Buy-Now-Pay-Later (BNPL): 

According to The Consumer Payment Survey conducted by RBA, BNPL has the highest reach with respect to awareness compared to other payment methods. While lending under credit cards showed declining trend, amounts extended under the BNPL scheme have almost doubled from 2017-18 to 2018-19. There were about 6.1 million open accounts existed as of June 2019, equating to 30% of the Australian adult population. The pandemic saw Australians increasingly choosing BNPL transactions for purchases. The total value of transactions grew by 43% in June 2020 as compared to the last year to $824.65 million.

Out of $1.4 billion outstanding under BNPL as of June 2019, Certegy holds the highest market share with 37%. Players earn diverse revenue streams - merchant fee revenue was the most common source besides consumer fees and missed payment fees. Brighte earned about 96% from merchant fees. While ZipMoney Payments earned about 61% from consumer fees. Missed payment fees stood the highest for Afterpay with ~20%.

Figure 2. Market Share of BNPL Players as of June 2019:

Source: Data from The Australian Securities and Investments Commission, Chart Created by Kalkine Group

Payment Through Cryptocurrencies:

Cryptocurrencies are payment systems used to execute contracts and run programs. These digital tokens are created from codes using an encrypted string of data blocks, known as the blockchain. Cryptocurrencies are legal in Australia, as announced by the government in 2017, treated as property, and is subject to capital gains tax. Australia launched stablecoins, AUDRamp in September 2018 but only 137 tokens were issued and the price had fallen to zero. Further, TrueAUD was launched in April 2019 but no tokens were issued. In the Consumer Payment Survey conducted by RBA, Australians heard about cryptocurrency, but less than 1% of them used cryptocurrency to pay for consumer goods in 2019.

About 310 digital currency exchange providers were registered with The Australian Transaction Reports and Analysis Centre (Austrac) since April 2018. This was after passing The Anti-Money Laundering and Counter-Terrorism Financing Amendment Bill in 2017.

The Australian’s The Fast Settlement Service for payment platform is much efficient than the Bitcoin network with the capacity to settle ~1,000 transactions per second as compared to fewer than 10 transactions per second by the Bitcoin network. It is worth mentioning that The Commonwealth Bank plans to use the Ripple digital currency network to settle payments between its subsidiaries.

Figure 3. Types of Cryptocurrencies:

Source: Data from Moneysmart, Chart Created by Kalkine Group

Key Risks: The pandemic impacted the repayment ability of consumers with mounting job losses among others. The Australian Securities and Investments Commission in its November 2020 report mentioned that one in five customers in the last 12 months had missed their payments under the BNPL scheme or were late paying other bills so as to make their BNPL payments on time. The majority of them utilized over 90% of their credit limits under the scheme. In fact, consumers were overcharged with merchant surcharges. The Reserve Bank of Australia under its periodic review imposed no surcharges by BNPL providers to merchants but the policy failed to take-off subsequently because of COVID uncertainties. Scams and fraudulent activities increased as the majority of the population shifted to card-based and alternative payments. Losses through scams rose sharply in 2019 to $634 million in Australia. But adoption of The CNP Fraud Mitigation Framework in July 2019 saw a ~15% drop in fraudulent payment transactions for the full-year ending July 2020.             

Figure 4. Key Risks in Card-based and Alternative Payment Method:

Source: Chart Created by Kalkine Group 

Outlook: Australians are already familiar with digital currency concepts. Adaption of Ripple network by The Commonwealth Bank of Australia is expected to bring ease, secure and faster transactions besides cutting down the cost of operations. The benefit of which will reach over 3.5 million Australians. The bank pioneered the technology and is expecting to change the industry landscape in digital transformation. The Morrison government is investing ~$800 million to strengthen the payment architecture in Australia. This commitment is a need of an hour when the payment solutions industry has seen transformation such as contactless payments, etc. On the cyber front, the Australian Signals Directorate is crafting a cyber strategy with the commitment of $1.6 billion to identify and disrupt criminal activity. The enforcement agencies would target terrorists, paedophiles and drug traffickers operating in the dark web network. Considering the trends in the payment industry, we have figured out 4 stocks on ASX that are set to see the momentum from the development.

(1) Westpac Banking Corporation (Recommendation: Buy, Potential Upside: Low Double-Digit)

(M-cap: A$ 79.90 Billion, Annual Dividend Yield: 1.42%)

Increased Loan Deferrals and Stressed Earnings: Westpac Banking Corporation (ASX: WBC) provides banking services. The bank offers accounts checking, savings deposits, money market, mortgage, among others. Cash earnings declined in all business verticals with loan growth dropping by 3% in FY20 over pcp. Consumer business reported cash earnings of $2.746 million in FY20, down by 12% over pcp. Net interest margin declined by 4bps to reach 2.08% in FY20 due to unfavourable movements during 2H FY20. The bank incurred a penalty from AUSTRAC which impacted cash earnings to the extent of $415 million. Non-interest income which reflects fee and investment income, also declined by 4% to ~$3.54 billion in FY20. Customer deferrals increased provisioning, particularly in mortgage loans. It had incurred impairment expenses of ~$3.18 billion, due to which its reported net profit slumped 66% to reach $2.29 billion in FY20. Notable movements were seen in 90+ days past due and sub-standard assets during September 2020 (QoQ). However, capitalisation improved with Common Equity Tier-1 (CET1) ratio at 11.1% as of September 2020 against 10.8% as on March 2020.

Outlook: WBC is expecting mortgage loans to achieve system-wide growth of ~3.2% in 2H FY21. The bank is expecting low interest rate to prevail in FY21 that is likely to impact deposit growth and earnings on investments. Life insurance business of WBC is likely to remain under pressure. Its stressed assets continue to remain on the balance sheet in FY21.

Valuation Methodology: Price/ Book Value Multiple Based Relative Valuation (Illustrative)

Price/ Book Value Multiple Based Relative Valuation (Source: Refinitiv, Thomson Reuters)

Note: All forecasted figures and peers have been taken from Thomson Reuters, NTM-Next Twelve Months

A-VIX vs WBC (Source: Refinitiv, Thomson Reuters)

Stock Recommendation: The stock posted positive 3-month and 6-month returns of ~16.52% and ~22.97%, respectively. It is currently trading above to the average of 52-week high price of $25.960 and 52-week low price of $13.470. The bank will continue to focus on key markets - Australia and New Zealand, going forward. It had adequate capitalization with CET1 at 11.13%. The bank is changing its business model by exiting several businesses (sale of Zip Co Limited in FY20) and spearheading risk management practises. WBC announced a dividend of AUD 0.8475 per share to be paid in March 2021.

The stock performed well over the market volatility index. We have valued the stock using the Price/Book Value multiple based illustrative relative valuation method and arrived at a target price of low double-digit upside (in percentage terms). For this purpose, we have taken peers such as National Australia Bank Ltd. (ASX: NAB), Commonwealth Bank of Australia (ASX: CBA), Australia and New Zealand Banking Group Ltd. (ASX: ANZ), to name a few. Considering the adequate capitalisation, dividend announcement, valuation and current trading levels,  we give a “Buy” recommendation on the stock at the current market price of $21.790, up by 0.045% on 25^th January 2021.  

(2) Virgin Money UK PLC (Recommendation: Buy, Potential Upside: Low Double-Digit)

(M-cap: A$ 3.45 Billion, Annual Dividend Yield: 0%)

Stable Asset Quality Backed by Government: Virgin Money UK PLC (ASX: VUK) provides banking services such as savings, cards, mortgages, checking accounts, investments, cash management, among others. The bank posted strong growth of 13.6% in business loans, aided by government programs. Its personal lending posted 3.9% growth in FY20 over pcp. UK market lockdowns impacted mortgage lending which de-grew by 3.0% over pcp. Overall lending contracted by 0.7% in FY20 over pcp. Its net interest margin declined from 1.66% in FY19 to 1.56% in FY20, in-line with guidance. The bank incurred an impairment charge of GBP 501 million (representing 68bps cost of risk) on the back of economic uncertainties. No deterioration in asset quality was observed with low arrears across businesses reflecting government support. The company delivered underlying profit before tax of GBP 124 million in FY20, a decline of 77% over pcp. Its Common Equity Tier-1 ratio (CET1) improved to 13.4% as of September 2020, slightly up from 13.3% in pcp.

Outlook: The bank is expecting the cost of risk to remain elevated on the concerns of economic uncertainty but provisioning to lower in FY21 compared against FY20. It plans to launch the BNPL scheme during H2 FY21, in addition to the launch of Virgin Money BCA in March 2021. The bank expects a flat NIM for FY21 whereas non-interest income is likely to remain subdued. It is expecting underlying operating costs below ~GBP 875 million. 

Valuation Methodology: Price/ Cash Flow Multiple Based Relative Valuation (Illustrative) 

Price/ Cash Flow Multiple Based Relative Valuation (Source: Refinitiv, Thomson Reuters)

Note: All forecasted figures and peers have been taken from Thomson Reuters, NTM-Next Twelve Months

A-VIX vs VUK (Source: Refinitiv, Thomson Reuters)

Stock Recommendation: The stock posted positive 3-month and 6-month returns of ~42.34% and ~34.66%, respectively. However, the stock has corrected ~2.47% in last one month giving an accumulation opportunity. It is currently trading below to the average of 52-week high price of $3.750 and 52-week low price of $1.060. The bank has maintained capitalisation with CET1 at 13.4%. It had witnessed improvement in personal and business loan portfolio over the previous year. The bank expects the cost of risk to decline and NIM to remain flat in FY21. The stock performed well over the market volatility index. We have valued the stock using the Price/ Cash Flow multiple based illustrative relative valuation method and arrived at a target price of low double-digit upside (in percentage terms). For this purpose, we have taken peers such as Australia and New Zealand Banking Group Ltd. (ASX: ANZ), Commonwealth Bank of Australia (ASX: CBA), Australian Finance Group Ltd. (ASX: AFG), to name a few. Considering an improvement in asset quality, adequate capitalization, the current valuation and trading levels, we give a “Buy” recommendation on the stock at the current market price of $2.370, down by 1.250% on 25^th January 2021.

(3) Sezzle Inc. (Recommendation: Hold, Potential Upside: Low Double Digit)

(M-cap: A$ 1.67 Billion, Annual Dividend Yield: 0%)

The Ramp-up of Merchants and Customers Drove Revenues: Sezzle Inc. (ASX: SZL) operates as a financial technology company, providing a payment platform between shoppers and retailers, via a short-term, interest-free instalment payment plan. SZL ramped-up its merchant base to 10,010 as of December 2019, up from 2,228 in the last pcp. Its active customers increased from 155,257 in FY18 to 914,886 in FY19. Its net transaction margin turned positive for the first time to 0.3% led by an increase in underlying merchant sales and lower transaction loss. Total income grew to US $16.1 million in FY19, up from US $1.6 million in pcp. Increased employee costs and other operating costs pulled down to negative EBITDA of $10.8 million in FY19.

SZL made the largest addition of active merchants in its history – an increase of 178.3% in Q3 FY20 to 20,890 and active customers ramped up to ~1.79 million. SZL raised US $58.3 million in July 2020 and August 2020 via institutional placement and securities purchase plan. Its partnership with Ally Lending will provide long-term financing to its merchants. SZL made its debut in India and it is in the early stages. 

Outlook:  SZL aims to achieve underlying merchant sales to US $1.0 billion by 2020-end (on a run-rate basis). It has hired PayPal executives recently which is expected to accelerate sales in North America and globally.

Valuation Methodology: EV/ Sales Multiple Based Relative Valuation (Illustrative) 

EV/ Sales Multiple Based Relative Valuation (Source: Refinitiv, Thomson Reuters)

Note: All forecasted figures and peers have been taken from Thomson Reuters, NTM-Next Twelve Months

A-VIX vs SZL (Source: Refinitiv, Thomson Reuters)

Stock Recommendation: The stock posted positive 3-month and 6-month returns of ~26.24% and ~14.84%, respectively. It is currently trading above to the average of 52-week high price of $11.830 and 52-week low price of $0.350. SZL clocked the highest merchant addition during Q3 FY20. Repeated customers usage and lower loss rates drove the net transaction margin (core driver for earnings) during the quarter period. The robust online and e-commerce adaption by consumers is expected to clock underlying merchant sales in excess of US $1.0 billion by 2020-end. The stock performed well over the market volatility index. We have valued the stock using the EV/ Sales multiple based illustrative relative valuation method and arrived at a target price of low double-digit upside (in percentage terms). For this purpose, we have taken peers such as Zip Co Ltd. (ASX: Z1P), Afterpay Ltd. (ASX: APT), Laybuy Holdings Ltd. (ASX: LBY), to name a few. Considering the robust growth in merchant sales and customer additions, valuation and current trading levels, we give a “Hold” recommendation on the stock at the current market price of $8.900, up by 4.705% on 25^th January 2021.

(4) Zip Co Ltd. (Recommendation: Hold, Potential Upside: Low Double Digit)

(M-cap: A$ 3.99 Billion, Annual Dividend Yield: 0%)

Global Growth and New Acquisitions Accelerated Revenues: Zip Co. Ltd. (ASX: Z1P) provides point-of-sale credit and digital payment services to small, medium, and enterprise businesses. The company made a global presence with penetration in five countries – Australia, the US, the UK, NZ, and South Africa. It had a customer base of 4 million, up by 62% in FY19. Revenue surged 91% to $161.0 million in FY20 over pcp. Z1P completed three acquisitions during the year – The Quadpay, The Partypay, and The Spotcap ANZ which had together supported merchant growth. Negative EBITDA margin widened to 28.4% in FY20, mainly due to provisions for expected credit losses (FY20: $25.8 million, up from $11.1 million in FY19). Further, there were many one-offs that had resulted in a loss before tax of $20.6 million. It had closed the full-year FY20 with a cash balance of $24.3 million. Borrowings increased to $1,090.4 million as of June 2020 primarily to fund receivables.

Z1P claims itself as one of the fastest-growing BNPL providers in the US and a true global leader with 5.7 million customers and annualized revenues of ~$480 million for the period ending December 2020. Its BNPL revenues surged 94% YoY to reach $40.2 million for the December ending quarter. The company raised $176.7 million in equity primarily to ramp-up the US market.

Outlook: Z1P launched its UK business in December which remains a strategic focus for the group and is expected to be a key growth driver for FY21. The UK business will leverage its global partners including Adyen, Big Commerce, Stripe and Shopify to scale up in 2021. It has a total facility limit of $147.9 million, of which $34.3 million was drawn as of December 2020. 

Valuation Methodology: EV/ Sales Multiple Based Relative Valuation (Illustrative)

EV/ Sales Multiple Based Relative Valuation (Source: Refinitiv, Thomson Reuters)

Note: All forecasted figures and peers have been taken from Thomson Reuters, NTM-Next Twelve Months

A-VIX vs Z1P (Source: Refinitiv, Thomson Reuters)

Stock Recommendation: The stock posted positive 3-month and 6-month returns of ~16.67% and ~16.48%, respectively. It is currently trading below to the average of 52-week high price of $10.640 and 52-week low price of $1.050. Z1P ramped-up its BNPL sales through partnership with merchants and launched products in global market. Acquisition of Quadpay is expected to accelerate US revenues. Its share repurchase plan was oversubscribed to raise $56.7 million. The stock performed well over the market volatility index. We have valued the stock using the EV/ Sales multiple based illustrative relative valuation method and arrived at a target price of low double-digit upside (in percentage terms). For this purpose, we have taken peers such as Afterpay Ltd. (ASX: APT), EML Payments Ltd. (ASX: EML), Iress Ltd. (ASX: IRE), to name a few. Considering the company's position in BNPL segment, growth strategies, valuation and current trading levels, we give a “Hold” recommendation on the stock at the current market price of $7.420, up by 2.627% on 25^th January 2021. 

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