- Visa has a dominant position in the payments ecosystem due the strong moat that it has.
- There are a number of emerging entrants in payments, including Paypal, Google, Amazon and Apple.
- New entrants will likely not disrupt Visa and MasterCard in the medium term given their non payments focus.
Visa (NYSE:V) is at the centre of a payments explosion which is taking place around it. Amazon (NASDAQ:AMZN), Google (NASDAQ:GOOG) (NASDAQ:GOOGL), eBay (NASDAQ:EBAY) and Apple (NASDAQ:AAPL) are all making noises in the payments space. The motivation and drive for each of these players is very different, as is the likely success that they will experience. Rather than being negatively exposed to disruption from payment innovation that is taking place, it is my view that Visa will be a long-term beneficiary of these moves. This will help drive additional payment volume, revenue and growth not currently captured in the stock price.
Visa is one of the major credit card networks in the world, along with MasterCard (NYSE:MA) and American Express (NYSE:AXP). Highly likely that somewhere in your wallet, you may have your own branded Visa card that has been issued to you by your bank. Visa is an almost $130B business, earning close to $12B in revenue with 80% gross margins.
How does Visa make money? Each time a credit card or debit card transaction is processed on the Visa network, Visa charges the merchants who put through that transaction an assessment fee. This is basically a small percentage of the total transaction value.
On average, Visa keeps something like 0.2% of the average transaction value. While the merchant is paying more per transaction, Visa has to pass on some of this to the bank that issues the Visa card, as well as to the bank that the merchant banks with.
Credit card networks have huge moats. It's not an easy task to set up a network, what with needing to have banks issue the cards, consumers to use the cards, and merchants to accept the cards. The network effects are significant, and not easy to replicate. It's the reason that credit cards are one of my favorite businesses.
There are a number of emerging players that have broader designs on the payments landscape, either as a core business proposition, or as a value-added service to a market they operate in. While there are a variety of smaller companies, each trying to take on the payments space, orchestrating new innovation requires considerable scale in terms of consumer adoption and merchant acceptance. It is thus my view that to be successful in payments disruption, players either need to have existing merchant relationships or a large base of customers. I have thus identified eBay, Amazon, Apple or Google as likely disruptors.
PayPal and EBAY offer exposure to the still-expanding online commerce market. PayPal has a very unique value proposition and competitive position that is unlikely to be replicated by any new entrants into the payments space. PayPal provides consumers the ability to shop freely with merchants online, secure in the knowledge that their credit card numbers won't be exposed to such merchants, but will remain safe and secure with PayPal.
A base of 130M+ users and almost universal acceptance by merchants creates a unique network effect, which serves to effectively lock out new entrants looking to enter the space. It will take a player with considerable merchant presence and user numbers to displace PayPal in the online payments space.
What makes PayPal fairly unique as a competitor to Visa is that it plays a role across many aspects of the payments chain, including as merchant acquirer and payment processor. PayPal also processes payments across its own ACH network, which is potentially competitive to Visa and MasterCard.
Payments which are processed via ACH versus the payment networks of Visa and MasterCard are higher-margin for PayPal. PayPal's recent activity to make progress with in-store payments must be a development that both Visa and MasterCard are watching very closely.
PayPal has been experimenting with direct Point of Sale integration in major merchants, such as Home Depot (NYSE:HD) and Jamba Juice (NASDAQ:JMBA), to deliver in-store payments. The elegant Point of Sale solution allows users to simply input their PayPal credentials directly into the Point of Sale and have their payment processed, without the need for the mobile device or any other intermediate device.
Merchants are desperate to reduce the interchange that they are paying to the payment networks, which collectively costs merchants over $48B annually. Given PayPal does have the ability to accept ACH payments, it could conceivably work with merchants to incentivize users to pay with PayPal linked to ACH, rather than credit cards, and work with merchants to drive loyalty programs around such a structure. This would assist merchants in reducing interchange, and in turn help PayPal to attract users to pay in-store.
While PayPal may be making strong inroads at convincing merchants to adopt its Point of Sale technology, it's unclear whether consumers will see a compelling enough value proposition to pay with PayPal in-store.
Further, given PayPal's significant dependency on MasterCard and Visa processing volumes today, Visa and MasterCard could make things rather uncomfortable for PayPal through incrementally ratcheting up fees on PayPal as a staged wallet provider and stifle PayPal disruption.
Amazon's move into offering a single-click checkout which can be integrated on 3rd-party websites is an interesting move into payments for the retail giant. Amazon has a solid brand reputation with consumers. Consumers will likely have a higher level of trust that Amazon will manage their payment information and transaction data in a more secure and trustworthy way. Amazon has more than 230M users today, which is a very attractive proposition for merchants and makes the case easier for them to do the necessary integration to support Amazon Payments.
The likely driver behind Amazon's actions is better access to the wealth of transaction data that occurs outside Amazon's own portal. While capturing a share of the online payments business can be a nice little earner for Amazon (PayPal's online business contributes in excess of $5B in annual revenue for EBAY), the bigger carrot will be more granular insights into Amazon users' purchasing behaviors. Amazon will be able to use these insights to provide better targeting of merchandise to Amazon users.
In any case, regardless of Amazon's motives, Amazon will largely be neutral or agnostic to the actual method of payment for the transaction, whether it occurs over Visa payment rails or some other method. Thus, Amazon's entry into online payments will not hurt or penalize Visa, as Amazon will just support whatever existing method that Amazon users have on file, rather than drive users to a specific type of payment instrument. In fact, merchants having Amazon integration may actually lead to more purchases being processed over the Visa network, instead of not taking place at all given users' reluctance to share credit card details with unknown merchants.
Of all the emerging entrants in the payments space, Apple arguably has some of the strongest assets to leverage. With more than 600 million payment instructions on file through iTunes and relationships with key merchant partners through Passbook, it is only a matter of time before Apple puts the pieces together to enable payment transactions from Apple devices. Additionally, the fingerprint integration that exists on recent iPhone devices hints at the ability for users to eventually use a "one-touch checkout" to authenticate themselves and pay.
Fortunately for Visa, Apple doesn't seem intent on forging an independent path in payments, but rather leveraging the payment credentials that its users already have. Apple's mission is to deliver more seamless experiences for users of its devices. It's also difficult to retrospectively go back and ask an embedded user base of 600M to use different payment credentials than what they already have without generating serious user anger. Thus, I don't see Apple's nascent efforts in payments disrupting Visa and MasterCard. If anything, Apple's success here will likely lead to an additional volume of credit transactions over the credit card networks and away from cash transactions.
Google's ambitions in the payments space center around obtaining transaction data to serve up targeted offers to users. Google has shown a great willingness to penetrate the payment space, going so as far as to subsidize interchange for merchants with the aim of collecting data. While such a move may make merchants more likely to accept Google Wallet as a checkout mechanism online, Google hasn't shown any intent thus far of wanting to significantly disrupt the way users pay for transactions.
While there are a number of new entrants in payments, each of whom are bringing considerable assets, the business models of Visa and MasterCard do not appear to be at risk of disruption at present.
There is, of course, a long-term threat as far as the influence that "staged wallets" (such as PayPal and Google Wallet) have in disintermediating Visa and MasterCard. The risk is that Visa and MasterCard lose consumer mindshare and a direct merchant relationship, decreasing their relevance. Both Visa and MasterCard have shown a willingness to deal aggressively with such staged wallets through raising transaction charges as a way of keeping them in check at present. A more considered response may be needed in the long term.