Visa: You Probably Have One In Your (Digital) Wallet

Sep. 12, 2022 9:25 AM ETVisa Inc. (V)MA14 Comments

Summary

  • The Visa stock has been one of the most resilient amid this year's market selloff.
  • On a fundamental basis, the company has continued to expand market share by capitalizing on accelerating cash digitization opportunities while also benefiting from the post-pandemic recovery narrative.
  • The following analysis will explore opportunities spanning from each of Visa's three core growth engines, as well as offsetting risks to be aware of in the near-term.
  • Looking for more investing ideas like this one? Get them exclusively at Livy Investment Research. Learn More »

Visa Plans Largest IPO In U.S. History

Justin Sullivan

Visa (NYSE:NYSE:V) has demonstrated resilience against ongoing cyclical headwinds, with the stock outperforming broader market performance this year and its fundamentals exhibiting positive momentum in post-pandemic recovery. Investors’ confidence in the stock has been buoyed by Visa’s recent demonstration of increased visibility into its post-pandemic recovery trajectory despite growing uncertainties on the global economic outlook:

The last thing I would say is that it is very possible that today, people are changing what they're buying, but they're not changing how they're paying. And we fall into the latter category. And we see overall spending levels, as we talked about remaining high, and we continue to see people choosing to pay with Visa not depending on any change that they might be making in what they're buying or the baskets that they have.

Source: Visa F3Q22 Earnings Call Transcript

Although record-high price pressures this year have reduced consumer spending power, and inadvertently, pushed consumer sentiment to all-time lows this summer, Visa payment volumes have bucked the trend, citing observations of strong retail spending with resilience expected to last through the remainder of calendar 2022. In the near-term, the company is also well-positioned to benefit from significant growth headroom in the continued recovery of higher-margin cross-border travel payment volumes stemming from gradual easing of COVID restrictions in the APAC region.

And over the longer-term, as the payments processing pioneer embarks a multi-year cycle of renewed growth on the back of accelerating cash digitization trends, with prospects of sustained market share gains anchored by its “network of networks” advantage while benefiting from a high-margin business model through scale across its core growth drivers, Visa remains a compelling investment at current levels.

Capturing the Cash-to-Digital Trend in Consumer End-Markets

One of Visa’s core growth drivers is consumer payments, which is becoming increasingly digital with accelerated e-commerce adoption coming out of the pandemic. Global online purchases today already represent about a fifth of total retail spending, with volumes expected to exceed $5.5 trillion by the end of the year. And with “trillions of offline retail dollars moving online over the much longer-term”, global payment volumes stemming from e-commerce are expected to top $7 trillion by mid-decade and represent a quarter of retail sales worldwide.

The increased share of omnichannel retail is expected to draw renewed growth in digital payment demand amid consumers over the longer-term. Debit and credit card spending has transitioned from a convenient and accessible form of physical payment, to now an essential in facilitating the shift in consumer behaviour with digital transformation. And the pandemic has played a critical role in accelerating this transition. More than three-quarters of adults worldwide now have access to a financial services account, up from merely 50% from ten years ago, with much of it driven by “the use of digital payments, which surged during COVID-19 mobility restrictions and when cash was perceived as unsanitary”.

This accordingly underscores an extended trajectory of renewed growth for Visa, as it capitalizes on the next generation of consumer demand for digital payments. And this is further corroborated by Visa’s track towards double-digit payments volume growth in the current fiscal year, extending momentum observed in fiscal 2021 despite the pullback in pandemic-era economic accommodations such as stimulus payments. The company has demonstrated strong resilience against current cyclical headwinds. As mentioned in the earlier section, consumer spending has continued to grow beyond pre-pandemic trends, despite the broad-based decrease in spending power due to forty-year-high inflation and near-term economic tightening.

In addition to secular growth stemming from cash digitization trends, another core driver of Visa’s momentum remains in cross-border volumes (ex-intra-Europe) which continues to benefit from the post-pandemic recovery narrative. Based on recent operating performance metrics released by Visa, “total cross-border volume grew 45% in July and 36% in August, which is 134% of 2019 levels in both months”, buoyed by continued easing in mobility restrictions across European and APAC regions. With Japan – one of the few APAC regions still under strict pandemic-induced mobility restrictions – now increasing its “daily entry cap” from 20,000 visitors to 50,000 visitors beginning this month and potential plans to scrap the limit altogether by November, Visa is well-positioned to benefit further from related outbound travel cross-border volumes, which generate higher-margin fees charged per swipe. And with China inbound and outbound cross-border volumes still “indexing below 25% of 2019 and below 40% of 2019 levels”, respectively, there is further visibility into Visa’s long-term growth and margin trajectory stemming from the global post-pandemic recovery narrative.

Unlocking New TAM with Visa’s Sprawling “Network of Networks” Business Model

Another core growth engine at Visa is new flows, which refers to the company’s increasing capitalization of opportunities outside of traditional consumer payments. With the future of transactions becoming increasingly digital, Visa’s vast network of customers spanning issuers, acquirers, merchants and consumers has created an “opportunity to capture new sources of money movement through card and non-card flows”.

Under Visa’s “network of networks business model”, the company leverages its industry-leading scale in digital payment solutions to further reach and capitalize on opportunities stemming from digital peer-to-peer (“P2P”), business-to-consumer (“B2C”), business-to-business (“B2B”), business-to-small-businesses (“B2b”) and government-to-consumer (“G2C”) transactions – a combined addressable market worth $185 trillion or “4x the size of PCE (personal consumption expenditures)” in which Visa has only penetrated less than 1% of, underscoring the massive growth runway ahead in related opportunities.

VisaDirect is one of Visa’s core new flows business segment, which facilitates the movement of money online for consumers, businesses, governments and customers worldwide. Through VisaDirect, the company captures share in the burgeoning market for online push payments by facilitating the “transfer of funds to a debit account in 30 minutes or less”, enabling consumers to make real-time money transfers to family and friends, businesses to remit payments directly to employees and suppliers, and governments to issue stimulus payments directly to eligible recipients.

With “two-thirds of adults worldwide now [making or receiving] a digital payment” and many doing so for the first time since the onset of the global pandemic, VisaDirect’s push payment solutions are well-positioned for accelerating market share gains for Visa in new flows opportunities. VisaDirect has already demonstrated continued scale beyond its core market in the U.S., with related push payment volumes quadrupling y/y during the fiscal third quarter in Latin America. The favourable performance points to continued momentum in market share gains over the longer-term, with digital payment adoption in developing economies still on the rise – 36% of adults in developing economies “received a [digital] payment into an account, such as private or public sector wage payments, government transfer or pension payments, payments for the sale of agricultural products or domestic remittances…[and] of those 36% who received a payment into an account, 83% also [made] a digital payment”.

Incremental Growth With Value-Added Services

Visa has also expanded to the provision of value-add services in digital payment processing solutions in recent years, underscoring its comprehensive foray within the sector. These services include issuer solutions like facilitating buy-now-pay-later (“BNPL”) capabilities; acceptance solutions such as fraud prevention, detection and resolution; risk and identity solutions; and advisory services.

To expand its reach in value-added services opportunities across its network of clients, Visa has engaged in opportunistic industry consolidation activities in recent years, including the acquisition of Cardinal Commerce, VERIFI, YellowPepper, and Currencycloud. The said companies extend Visa’s foray across a comprehensive portfolio of value-added opportunities in digital payments spanning authentication, transaction dispute resolution, payment flow acceleration, and FX solutions for cross-border transactions. Visa has also internally developed a “risk-as-a-service” solution that leverages AI to monitor, detect and block fraudulent transactions, safeguarding $2 billion on an annualized basis in payment volume exposure to cyber-criminal activity. With value-added services expected to “grow 2x consumer payments” over the longer-term, and Visa’s proven track record in capturing solid demand for said solutions in recent years (+20% y/y growth in F3Q22), the segment represents a core opportunity for the company to diversify its revenue portfolio from overreliance on payments volume.

Fundamental Analysis

Drawing on the foregoing analysis on Visa’s three core growth drivers and related prospects over the longer-term, the company is expected to capitalize on payments volume growth at a five-year compounded average growth rate (“CAGR”) of 7.3% from $11.7 trillion by the end of fiscal 2022 towards more than $16.6 trillion by fiscal 2026. This is forecast to generate net revenues of $29.3 billion by the end of the current fiscal year, with further expansion towards an annualized figure of more than $42 billion by fiscal 2026. International transaction revenue is expected to be a core driver of net revenue growth in the near-term as Visa continues to capitalize on opportunities stemming from the global post-pandemic recovery narrative. Meanwhile, longer-term growth in revenue streams reliant on payments volume will be sustained by emerging opportunities in consumer e-commerce adoption, as well as new flows.

Visa Revenue Projections

Visa Revenue Projections (Author)

As a result, the company is expected to benefit from continued margin recovery and expansion, primarily driven by the return of more profitable international transaction revenues, as well as continued ramp in the delivery of its new flows and value-added services / solutions to drive additional economies of scale.

Visa Financial Projections

Visa Financial Projections (Author)

Valuation Analysis

Based on the foregoing analysis on Visa’s best-in-class fundamentals and capital structure, as well as its increased near-term visibility into post-pandemic recovery and longer-term aspirations in expanding market share across legacy and emerging digital payment solutions, we are setting a near-term price target of $230 on the stock.

Visa Price Target

Visa Valuation Analysis (Author)

This would represent upside potential of 12% based on the shares’ last traded price of $205.20 on September 9. The valuation analysis applies a 29.4x forward P/E multiple to better reflect Visa’s earnings growth profile compared to the broader digital payment networks and services peer group (mean NTM P/E 18.9x; mean NTM EPS growth 12%).

Visa Valuation Analysis

Visa Valuation Analysis (Author)

Investment Risks

Macroeconomic Challenges: Near-term macroeconomic uncertainties remain a potential overhang on Visa’s performance. Despite the company’s observations of continued strength in consumer spending volumes, total U.S. payments volume growth decelerated slightly entering the calendar third quarter, which is consistent with management’s expectations for sustained resilience in affluent spent to be offset by comparatively moderated non-affluent spend in the near-term due to broad-based impacts from elevated price pressures that have hit low-income families the hardest. Any further deceleration could potentially stall payment volumes expansion and impact its near-term valuations recovery.

Credit Card Competition Act: Another risk to investing in Visa is continued uncertainties to its regulatory environment. The recently introduced bipartisan “Credit Card Competition Act” proposed by U.S. Senator Roger Marshall and U.S. Senate Majority Whip Dick Durbin would require banks with more than $100 billion in assets to issue credit cards that permit processing via two networks, with “at least one of which must be outside of the top two largest networks [to] inject real competition into the credit card market”. This means Visa or Mastercard (MA) credit cards issued today – if the Credit Card Competition Act is enacted into law – must provide a choice to be processed on one additional non-major network (e.g. Visa-Discover; Visa-American Express; Visa-Diner’s Club), which risks dilution of payments volume, and inadvertently, reduce swipe fee revenues and related profit margins.

Today, Visa swipe fees “cost about 35 cents on average per transaction for merchants”, and is continuing on the rise. While the Credit Card Competition Act estimates $11 billion in swipe fee savings for merchants, which could alleviate some inflation pressures, it could potentially bring more harm to small businesses and consumer end-markets. The enactment of the Credit Card Competition Act could potentially incentivize major credit card networks like Visa and Mastercard to levy separate fees on small business merchants to compensate for the additional costs of regulatory compliance, while also increasing annual credit card fees and/or reducing credit card rewards for consumers to offset swipe fee losses. It could also introduce cannibalization of credit card demand by encouraging the shift in consumer preference towards other credit solutions like BNPL instead, given the ensuing reduction of credit card reward incentives under the Credit Card Competition Act.

Yet, even if this is the case, we expect Visa’s growth trajectory to remain resilient. First, there are more than 340 million Visa credit cards in circulation within the U.S. alone, underscoring the company’s massive market share in consumer end-markets to sustain resilience in the face of competition. Second, the company’s increasing foray in new flows opportunities as discussed in the earlier section, including BNPL solutions, also offers compensating revenue growth avenues in the case that credit card payments volumes decrease as a result of the Credit Card Competition Act being signed into law. Currently, Visa offers its issuing bank partners an option to “add BNPL as a feature for cardholders on their already approved credit lines”, which allows it to capitalize on a greater share of the related market in digital payment solutions.

Final Thoughts

Visa’s renewed multi-year growth trajectory buoyed by the accelerating shift to digitized payments, paired with the stock’s valuation multiple contraction makes it a favourable long-term investment. As a pioneer in digital payment solutions, the increase availability of mobile connectivity has unlocked another stage of growth on increasing demand for cash digitization. Despite rising competition from emerging fintech solutions, Visa’s expansive market share across a wide range of digital payment solutions enables a “network of networks” strategy that allows it to both engage in emerging digital payment trends, while also partaking in emerging rivals’ share gains through prudent partnerships. Combined with its generous growth and margin profile, as well as its robust balance sheet, Visa makes one of the safest long-term holdings at current levels.

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Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such 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.

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