Brokerage firm Motilal Oswal Financial Services believes One 97 Communications (Paytm) is an attractive ‘buy’ at this juncture as a constant improvement in contribution margin and operating leverage will continue to drive its operating profitability.
The brokerage firm has initiated coverage on the stock with a ‘buy’ call and a target price of ₹865, implying a 34 percent upside.
Shares of Paytm have been on a volatile track in the last one year. They hit their 52-week high of ₹844.40 apiece on August 8, 2022 and a 52-week low of ₹439.60 apiece on November 24, 2022.
As of April 19 close, they are down nearly 24 percent from their 52-week high.
Motilal Oswal underscored Paytm achieved breakeven in adjusted EBITDA during Q3FY23 which was well ahead of its guidance.
The brokerage firm believes that a constant improvement in contribution margin and operating leverage will continue to drive its operating profitability.
"We estimate Paytm to achieve EBITDA break-even by FY25 with an EBITDA margin of 3.2 percent. We further estimate its revenue and contribution profit to grow at 26 per cent and 32 per cent CAGR, respectively, over FY23-28," Motilal Oswal said.
"We value Paytm based on 18 times FY28E EV/EBITDA and discount the same to FY25E taking a discount rate of nearly 15 percent, thus valuing the stock at ₹865, which implies 4.5 times FY25E price-to-sales," added Motilal Oswal.
Investment rationale by Motilal Oswal
1. Digital payments are the future of commerce
Motilal Oswal believes digital payments are the new face of commerce. As per the brokerage firm, the total payments industry is forecasted to double to $16 trillion by 2026, within which the mix of digital payments is likely to increase to 65 percent. Digital payments are expected to surge nearly 3 times to $10 trillion by 2026 from $3 trillion in 2021.
Moreover, mobile payments are projected to grow even faster at nearly 5 times to $3 trillion by 2026.
Further, the brokerage firm said an increase in QR deployment will drive merchant payment, which is likely to jump about 6 times to $2.7 trillion by 2026. Paytm will thus be a big beneficiary from this surge as it has a strong positioning in both digital payments and lending businesses.
2. Payment business posting healthy growth
Motilal Oswal underscored Paytm has reported healthy traction in growing its GMV (gross merchandise value) at 55 percent CAGR over FY19-23. While the growth was slightly softer due to Covid-19, the same picked up strongly post-Covid. GMV clocked 81 percent CAGR over FY21-23.
"With increasing use cases, we expect GMV to report a healthy 27 percent CAGR over FY23-25. Paytm also posted steady growth in MTUs (monthly transacting users) to about 90 million as of FY23 while the number of subscription payment devices rose to 6.8 million. As the penetration among merchants remains low, we expect the traction to sustain with a quarterly addition of about one million devices. We forecast the payment revenue to thus clock a healthy 21 percent CAGR over FY23-25," said Motilal Oswal.
3. Financial revenue to grow exponentially
Motilal exhibits faith in the prospects of Paytm's revenue growth. It said that Paytm’s financial business further augments the profitability of the core payment business due to its inherently higher contribution margin.
"In the financial business, Paytm primarily offers three types of loans, viz.: (a) Paytm Postpaid – offers short-term credit of up to ₹60,000 with a period of up to 30 days; (b) Personal loans – offers loans with an average tenure of about 15 months and average ticket size of ₹1.2 lakh; and (c) Merchant loans – offers loans with an average tenure of about 12 months and average ticket size of ₹1.5 lakh," Motilal Oswal observed.
"Paytm does not undertake any underwriting risk and coordinates loans with other financial partners on which it earns a sourcing and collection fee. The mix of financial services revenue has increased to 19 percent in the nine months of FY23 from only 4 percent in FY19. With faster growth in GMV, merchant acquisition and cross-sell rate, we estimate Paytm’s financial revenue to record 58 percent CAGR over FY23-25," the brokerage firm said.
4. Disbursements surging 4.6 times YoY
As per Motilal Oswal, Paytm’s lending business has demonstrated robust traction in loan disbursals with the total number of loans disbursed surging 4.6 times year-on-year (YoY) in FY23 against 4.4 times in FY22.
"We note that the total number of unique borrowers (who have taken a loan through Paytm) rose 1.4m quarter-on-quarter (QoQ) to 8.1m in Q3FY23. We further note that penetration for Paytm remains lower at 0.8-5.2 percent of MTU and thus there remains significant headroom for growth given the large customer and merchant bases. We forecast disbursements to register 64 percent CAGR over FY23-25," said Motilal Oswal.
5. Operating leverage to aid profitability
Motilal pointed out that Paytm has seen a moderation in payment processing charges, marketing activities and promotional expenses over recent years. Hence, direct expenses have moderated to nearly 54 percent of revenue in nine months of FY23 from 162 percent in FY19.
Similarly, indirect expenses have moderated to about 54 percent of revenue from 69 percent in FY19.
The brokerage firm believes while Paytm will continue to invest in growth and merchant base expansion, the improvement in operating leverage will nevertheless aid profitability.
"The company has reported a healthy expansion in contribution margin to 46.3 percent in nine months of FY23 from 30.1 percent in FY22 driven by a rising mix of financial revenue. With consistent growth in merchants having subscription devices and robust disbursement run-rate, we estimate contribution profit to post 42 percent CAGR over FY23-25 with margins improving to 56.8 percent by FY25," said Motilal Oswal.
Risks: As far as risk is concerned, the brokerage firm highlighted that the inability to secure the RBI approval for onboarding new customers in Payment Bank is a key risk while securing a license for Payment Aggregator is critical for long-term growth.
According to a MintGenie poll, 11 analysts on an average have a ‘strong buy’ call on the stock.
Disclaimer: The views and recommendations given in this article are those of the broking firm. These do not represent the views of MintGenie.
