Did Square Stick A Fork In VeriFone?

Oct.12.12 | About: VeriFone Systems, (PAY)

With shares now trading at a significant discount to our fair value range, we've become intrigued by recent developments at VeriFone (NYSE:PAY). Third quarter earnings were mixed, but we continue to think the long-term trend for credit and debit card payments remains intact.

The market seems to love Square-a mobile payment solutions company that accepts payments easily and efficiently. Some investors are thinking the simplicity of sticking a card reader into an iPad means that all retailers will immediately switch to Square.

We simply don't believe that to be the case. For one, the market is completely underestimating VeriFone's entrenched user base. Stores like Walgreen's (WAG), Roundy's (NYSE:RNDY), and several independent gas stations have no impetus to change payment solutions. With self-checkouts, as well as small wait times, we don't think any of these businesses will be utilizing labor to actively seek out payments. Unless consumers demand mobile payment options (i.e. mobile wallets), we don't see much reason why credit and debit card payments will meaningfully decline.

We maintain there is secular growth left, as younger generations spend more and older generations, which still use cash for many items, reduce consumption. As a result, we remain bullish on the credit card network providers such as Visa (NYSE:V) and PayPal (NASDAQ:EBAY), especially the latter's mobile payment processing capabilities. For a read on how we called eBay a slam-dunk investment before it catapulted 50% higher, please click here. The firm scored a rare, perfect 10 on our stock-selection methodology, Valuentum Buying Index, at the time as well.

Additionally, we're confident that VeriFone will be able to create and successfully market value-added point-of-sale (POS) systems with stationary and mobile capabilities. The firm has the technological expertise of creating inventory and supply-chain management software, which should help the company retain enterprise business. Of course, this isn't to say Square isn't developing similar products, but we think the payments industry is so large and so important to businesses that there will be a viable market for both companies. Economic profits may shrink over the long haul due to increased competition, but we think the decline is over-exaggerated in VeriFone's current stock price. We don't see the company going away anytime soon thanks to its large enterprise customers and a sticky customer base.

At current levels, VeriFone trades at a significant discount to our fair value range. However, shares still score just a 3 on the Valuentum Buying Index (our stock-selection methodology), suggesting more downside technical weakness may surface. We're satisfied with exposure to Visa and PayPal in the portfolio of our Best Ideas Newsletter, but the risk/reward in shares of VeriFone is starting to become attractive.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: Some of the firms mentioned in this article may be included in our Best Ideas portfolio.