April 22, 2023
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ONE 97 COMMUNICATIONS Stock Research Report by Motilal Oswal
Sector: Online Services
CMP Rs. 644, Target Rs. 865 (34% upside potential)
Target Period: 12 Months
ONE 97 COMMUNICATIONS Stock Research Report: Get Set PAY!
Two-pronged strategy to drive profitability | EBITDA to break-even in FY25E
● Scale matters: One 97 Communications Ltd (Paytm) is India’s leading payments app and FinTech enterprise offering payments, financial services, commerce, and cloud services to its large consumer/merchant base of ~350m/ ~31.4m, respectively as on 3QFY23. It is among the largest payments platform, with GMV of ~INR13.2t in FY23 (INR8.5t in FY22).
● Huge cross-sell opportunity: The company has grown its Monthly Transacting Users (MTUs) to 90m as of FY23 that provides a ready customer base to cross-sell financial products to consumers; while, robust growth in subscription devices has helped improve throughput and supported growth in merchant loans.
● Disbursements to surge: During FY23, Paytm reported a 4.6x jump in the value of loans disbursed to reach an annualized run-rate of INR500b. We estimate disbursements to report a steady 64% CAGR over FY23-25, thus driving the mix of financial revenue upwards to 31%.
● Contribution margin to expand: Paytm has achieved a breakeven in adjusted EBITDA during 3QFY23, well ahead of its guidance. We estimate contribution margin to improve to 56.8% by FY25 from 30% in FY22, fueled by improvement in operating leverage and rise in financial business mix.
● Initiate with a BUY: We estimate Paytm to achieve an overall EBITDA break-even by FY25. We value the stock at INR865 based on 18x FY28E EV/EBITDA and discounting the same to FY25E at ~15%, which implies 4.5x FY25E P/Sales. We initiate coverage on the stock with a BUY rating.
Digital payments – the new face of commerce
Total payments industry is forecasted to double to USD16t by 2026, within which the mix of digital payments is likely to increase to 65%. Thus, digital payments are expected to surge ~3x to USD10t by 2026 from USD3t in 2021. Mobile payments are projected to grow even faster at ~5x to USD3t by 2026. Further, an increase in QR deployment will drive merchant payment, which is likely to jump ~6x to USD2.7t by 2026. Paytm will thus be a big beneficiary from this surge as it has a strong positioning in both digital payments and lending businesses.
Payment business posting healthy growth; estimate 21% revenue CAGR
Paytm has reported a healthy traction in growing its GMV at 55% CAGR over FY19-23. While the growth was slightly softer due to Covid-19, the same pickedup strongly post-Covid. GMV clocked 81% CAGR over FY21-23. With increasing use cases, we expect GMV to report a healthy 27% CAGR over FY23-25. Paytm also posted steady growth in MTUs to ~90m as of FY23 while the number of subscription payment devices rose to 6.8m. As the penetration among merchants remains low, we expect the traction to sustain with a quarterly addition of ~1.0m devices. We forecast the payment revenue to thus clock a healthy 21% CAGR over FY23-25.
ONE 97 COMMUNICATIONS Stock Research Report: Financial revenue to grow exponentially; mix to improve to 31% by FY25E
Paytm’s financial business further augments the profitability of core payment business due to its inherently higher contribution margin. In financial business, Paytm primarily offers three types of loans, viz.: a) Paytm Postpaid – offers short-term credit of up to INR60k with a period of up to 30 days; b) Personal Loans – offers loans with an average tenure of ~15 months and average ticket size of INR0.12m; and c) Merchant Loans – offers loans with an average tenure of ~12 months and average ticket size of INR0.15m. Paytm does not undertake any underwriting risk and cooriginates loans with other financial partners on which it earns a sourcing and collection fee. The mix of financial services revenue has increased to 19% in 9MFY23 from only 4% in FY19. With faster growth in GMV, merchant acquisition and crosssell rate, we estimate Paytm’s financial revenue to record 58% CAGR over FY23-25.
Disbursements surging 4.6x YoY; estimate 64% CAGR over FY23-25
Paytm’s lending business has demonstrated a robust traction in loan disbursals with the total number of loans disbursed surging 4.6x YoY in FY23 (4.4x in FY22). We note that the total number of unique borrowers (who have taken a loan through Paytm) rose 1.4m QoQ to 8.1m in 3QFY23. We further note that penetration for Paytm remains lower at 0.8-5.2% of MTU and thus there remains a significant headroom for growth given the large customer and merchant bases. We thus forecast disbursements to register 64% CAGR over FY23-25.
ONE 97 COMMUNICATIONS Stock Research Report: Operating leverage to aid profitability; Contribution margin to expand to 57%
Paytm has seen moderation in payment processing charges, marketing activities and promotional expenses over recent years. Hence, direct expenses have moderated to ~54% of revenue in 9MFY23 from 162% in FY19. Similarly, indirect expenses have moderated to ~54% of revenue from 69% in FY19. While Paytm will continue to invest in growth and merchant base expansion, the improvement in operating leverage will nevertheless aid profitability. The company has reported a healthy expansion in contribution margin to 46.3% in 9MFY23 from 30.1% in FY22 driven by rising mix of financial revenue. With consistent growth in merchants having subscription device and robust disbursement run-rate, we estimate contribution profit to post 42% CAGR over FY23-25 with margins improving to 56.8% by FY25.
ONE 97 COMMUNICATIONS Stock Research Report: ESOP cost to remain elevated until FY25E
Paytm has been witnessing higher ESOP charges as the cost is front-ended based on the vesting period. Current vesting schedule stands at Year 1 (10%), Year 2 (20%), Year 3 (20%), Year 4 (25%), and Year 5 (25%). As a result, the charges are spread across five years with ~38% in Year 1, 28% in Year 2, 18% in Year 3, 11% in Year 4 and 5% in Year 5. Thus, ESOP cost is projected to remain elevated until FY25 and is likely to moderate from FY26 onwards.
Estimate EBITDA break-even by FY25; Initiate coverage with a BUY rating
Paytm has achieved a breakevenin adjusted EBITDA during 3QFY23, well ahead of its guidance. We believe that a constant improvement in contribution margin and operating leverage will continue to drive its operating profitability. We thus estimate Paytm to achieve EBITDA break-even by FY25 with an EBITDA margin of 3.2%. We further estimate its revenue/contribution profit to grow at 26%/32% CAGR over FY23 28. We thus value Paytm based on 18x FY28E EV/EBITDA and discount the same to FY25E taking a discount rate of ~15% thus valuing the stock at INR865, which implies 4.5x FY25E P/Sales. We initiate coverage on the stock with a BUY rating. Key risks: Inability to secure the RBI approval for onboarding new customers in Payment Bank and securing license for Payment Aggregator that is critical for long- term growth.
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