Shortly after eBay (NASDAQ:EBAY) announced to spin off its PayPal division, I did some research about PayPal and found it a good business to invest once become independent. The analysis of PayPal leads me to a similar model in another country. Qiwi (NASDAQ:QIWI), dragged down by the political tension, depreciation of Russian Ruble and pessimistic outlook of the regional economy, presented a value opportunity on a company of great quality.
Cash is the dominant payment method in Russia. 90% of the Payments are cash. Only around 25% of Russian Adults have bank accounts and less than 20% have credit cards. 90% of those cards are used only for withdrawing cash. Traditionally Russians paid bills and made payments of all kinds at banks and supermarkets. But with the rising consumer power, there aren't enough spots at convenience. A network of kiosks emerged since 2004. Consumers inject cash into kiosks and make digital payment that more than 40,000 major vendors can accept via kiosks. That puts Qiwi in the center of the Russian payments world. Qiwi managed a payment network based on roughly 180,000 kiosks, double the number of kiosks/ATM ran by the second player, Sberbank. With increasing adoption of e-commerce/internet/smart phones, Qiwi launched a virtual electronic wallet, Visa Qiwi Wallet. Since launched at the end of 2009, Qiwi Visa Wallet has accumulated 17.2 million users thanks to its broad kiosk network and brand recognition. It's the second largest payment processing network in Russia, with Yandex Money(jointly owned by Sberbank and Yandex) being the largest (20 million users by the end of 2014).
Qiwi is well positioned in the fast growing markets with favorable secular trends. As mentioned above, cash is still the major payment method in Russia. About 80% of Russian online shoppers pay cash on delivery. The structural shift from cash to other alternative transaction methods and the rise of online shopping in Russia presents long term growth opportunities for Qiwi. Over the last three years, payment volume processed by Qiwi has increased by 17% annually and average net revenue yield(% of fee charged based on payment volume) has increased by over 50 bps. Overall this has resulated in a 46% CAGR growth on revenue.
Breaking down revenue into segments, e-commerce and money remittances have been significant growth drivers and are expected to keep growing at a very rapid pace going forward. YoY revenue growth rates of e-commerce and money remittances are 93% and 119% respectively. These two together account for 25% of the total revenue currently. Financial services is growing at modest pace and accounts for about 22% of the total revenue. However, it is subject to overall economic conditions and will be worst affected by declining business activities. Traditional bill payments to telecom/utilities/transportation accounts for 33% of total revenue. This segment has flat or slightly negative growth and will gradually become a smaller part of the total transaction volume .
Russia's GDP is forecasted to contract by about 3% in 2015. However, there are no signs of a severe banking/currency/economy crisis. Energy related revenue in local currency didn't see a sharpe decline as Rubble has depreciatiated to a degree that much of the oil price plunge was offset. Historically, Qiwi has managed to increase revenue mid-high teens annually ( see exhibit below). I expect payment volume growth to slow down to high single digit given the economic contraction. But I expect it to resume to mid teens as once the geopolitical tension is settled and oil price rebound. Over the long term, payment volume can accelerate to the 20ish as the structural tailwind takes place. Regarding competition for market share, Qiwi is advancing head-to-head with Yandex Money. Both are adding users at a similar pace (see exhibit below).
|(in millions, except as otherwise indicated)|
|Other Financial and Operating Data:|
|Adjusted net revenue||2,799||3,254||4,169||6,168||8,836|
|Adjusted net profit||768||721||1,306||2,173||3,496|
|Payment volume (in billions)||351||402||475||561||645|
|Active kiosks and terminals (units)||158,867||170,384||169,102||168,236||181,148|
|Active Visa Qiwi Wallet accounts (at period end, in millions)||6||8.1||11.4||15.4||17.2|
|Average net revenue yield||0.80%||0.82%||0.88%||1.10%||1.37%|
|Payment volume growth (yoy)||14.53%||18.16%||18.11%||14.97%|
|Kiosks growth (yoy)||7.25%||-0.75%||-0.51%||7.67%|
|Visa Qiwi Wallet accounts growth (yoy)||35.00%||40.74%||35.09%||11.69%|
|Yandex.Money account growth||30.00%||34.62%||14.29%|
Qiwi also benefits from the network effect and the scale of economy. There are over 40,000 merchants that accept payments through Qiwi, 70 million active monthly users and over 17 million users of Qiwi Visa Wallet. Such a broad and frequent use of network by both customers and merchants naturally creates barrier of entry and attracts more customers and merchants to the platform. A recent example will be further cooperation with Beeline Russia, enabling more Visa Qiwi Wallet Capabilities for Beeline's customers. With such a large user base, Qiwi can effectively invest more aggressively than competitors into technology, marketing and strategic acquisition. Similar to other software companies in the world, the marginal cost of a new user is minimum but the majority of marginal revenue flow through bottom line.
Qiwi is an asset light business that requires limited capital expenditures while generates strong cash flows. Firstly, Qiwi does not buy or own kiosks. Its kiosks are assembled by third-party manufacturers and maintained and operated by agents. Qiwi only installs software on kiosks and maintained the payment network. Therefore, R&D is only spent on the software(payment network). On average, Qiwi's capital expenditure is less than 10% of the free cash flow generated. Secondly, similar to Alipay and PayPal, Qiwi receives cash days even months before they transfer payments to vendors. That means Qiwi is essentially running a business with negative working capital. As it increases payment volume on its network, Qiwi can have additional capital for free(no interest charge) rather than putting more capital for day to day operations. The evidence is that Qiwi's cash conversion ratio is always above 1. However, cash conversion declined marginally as many vendors tighten their receivable policy given the tough macro environment ahead.
Qiwi's stock is traded at a very attractive valuation. Currently Qiwi is traded around 16x P/E and 10x free cash flow yield (both based on trailing twelve month figures). The upside and margin of safety is really compelling given the strong growth potential and business moat. I expect at least double to triple of the initial investment within 3 years as business continue to grow organically and the stock get rerated afterwards.
Here are some risks and challenges to mention:
1. There could be temporary setback on the stock price given the current pessimism on Russia. The lasting sanction and low oil price can further slow the economic activities and reduce transaction volume. I expect retail to be more resilient and ruble's depreciation will help Russia develops economy in areas other than the energy sector(a silver lining of the cloud).
2.Some merchants start to tighten their receivable policy given the tough macro environment. Qiwi might have to transfer the payment earlier than they could have in the past which can deteriorate its cash flow conversion in the short term. Qiwi suspended its dividend due to such reasons. Dividend resumed in Q1 2015.
3.Competition within the industry itself could be a long term threat. Yandex Money, Webmaster, PayPal are the existing players in the Russian market. And financial services are building out their own payment network. So far, Qiwi has implemented well and keep pace with Yandex Money. I will continue to monitor the users growth in all the major players.
The article was written before Q1. Now we got some updates from Q1's release to track the signpost. Interestingly, the price fell back to the pre-Q1 announcement because of nothing but likely oil plunge. And again the Mr. Market creates some opportunity for investors.
Updates from Q1:
1. Top line ic 34% yoy driven by revenue yield increased by 18 bps Q/Q and 33 bps Y/Y to 1.59%(revenue yield will continue to grow but eventually will stay flat about 3%) and 6% payment volume(payment volume slowed down significantly from mid teens)
2. SGA only went up 12% and Net profit increased 42% Y/Y(Net profit could grow at a faster pace than top line growth bcz of the scale effect I mentioned in the article)
3. Qiwi bought Russia's Contact money transfer service and Rapida payment-processing service from local financial group Otkritie in exchange for 5.59M shares. According to Qiwi, the deal is expected to "contribute between approximately 15% and 20% in annualized terms to both Qiwi's adjusted net revenue and adjusted net profit in 2015 following closing." (Click HERE for the news release) It's a response to Yandex Money' cooperation with Sberbank.
4. Dividend resumed with a nice over 3% yield, a good return while you wait for the macro to look better.
Disclosure: The author is long QIWI.
The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.