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Since our last update on Groupon (NASDAQ:GRPN), the stock price has shown a 9% gain. This spike came due to the announcement of the new Groupon online payments system. The Smartphone Industry has seen phenomenal growth over the last couple of years. The growth has been so impressive that many iconic technology companies have been caught completely off guard, while others have created tons of shareholder value. The biggest beneficiary of this growth should be e-commerce. As computing shifts to pockets, e-commerce growths rates will improve. According to Gartner estimates, the Mobile Payment Transaction Industry alone will be a $600 billion industry by 2016. The main players in the industry are Paypal, Google (NASDAQ:GOOG), and Square. We believe that there is a lot of growth in this industry and there is room for entry. Considering a large cash portfolio (30% of market cap), an experienced sales force, and an existing relationship with merchants, we are bullish on Groupon Payments (GP). The company has shown a YoY growth rate of 66% in revenues during the last quarter, with a take rate of 40%. Due to these reasons, we recommend a long position in GPRN.

Groupon Payments

The company on Wednesday launched its mobile payment solution, called Groupon Payments. The service allows merchants, such as restaurant owners and book stores, to collect payments through credit cards at cheaper prices. Groupon Payments gives users a free audio reader or a $100 card reader. The card readers being distributed by Groupon have been manufactured by Rom Data. These readers can be attached to an iPod touch or an iPhone. The system is currently aimed at smaller merchants who find credit card transactions very expensive. There are other benefits for small business holders besides low transaction charges. According to the company, merchants who use these cards will be able to analyze transaction histories, check daily sales reports, and review long-term revenue trends.

Merchants already engaged in business with Groupon will get the lowest rates. The existing Groupon customers will pay a transaction fee of 1.8%, plus 15 cents from Visa (NYSE:V), Master (NYSE:MA) and Discover Financial Services (NYSE:DFS). The rates will be higher for American Express (NYSE:AXP) card holders; 3% plus 15 cents per transaction. The charges for users not using Groupon will be higher. Businesses not offering deals through Groupon's website will be charged 2.2 cents (Master, Visa and Discover), and 3% for American Express plus 15 cents per transaction. Merchants are being charged 2.75% by Square and 2.7% by Paypal.

Transaction Amount ($)

$ 10

$ 20

$ 40

$ 80

$ 160

$ 320

GP for own Merchants

$ 0.33

$ 0.51

$ 0.87

$ 1.59

$ 3.03

$ 5.91

GP for random Merchants

$ 0.37

$ 0.59

$ 1.03

$ 1.91

$ 3.67

$ 7.19

GP for American Express

$ 0.45

$ 0.75

$ 1.35

$ 2.55

$ 4.95

$ 9.75

Paypal

$ 0.27

$ 0.54

$ 1.08

$ 2.16

$ 4.32

$ 8.64

Square

$ 0.28

$ 0.55

$ 1.10

$ 2.20

$ 4.40

$ 8.80

Source: Qineqt Calculations

In the table given above, we have calculated the charges that merchants will have to incur when using different payment solutions and cards. GP on American Express is more expensive than the competition. However, when you look at GP for its merchants on other cards, it is cheaper when transactions are above $16. The difference becomes more significant as the transaction amount increases. Therefore, the table shows that Groupon Payments will be a cheaper solution for Groupon merchants and merchants as a whole.

Conclusion

We are bullish on Groupon and have already explained how the company is undervalued. The stock is currently trading at $5.11, whereas using December '13 sell-side EPS of $0.37 and industry average P/E of 20x, we can establish a price target of $7.5. Moreover, we believe the Groupon Payment system will have a very positive impact on the business model. It will give merchants another incentive to sign up with Groupon. Moreover, as a standalone business, GP can generate good growth, as it is providing services at a lower cost. According to Gartner, the Mobile Payment Industry can grow to more than $600 billion by 2016. Therefore, we think that GP can show significant growth in this high-growth market.

Source: Buy Groupon: Valuation Is Cheap And Groupon Payments Will Be A Success