Summary
- First quarter results showed impressive improvement over the year-ago period. Revenues increased 9%, and net income improved to $1.7m versus $(800k) in Q1 2014.
- Growth is being driven organically, without the need for debt or dilutive acquisitions.
- A new and expanded 5-year contract with its largest customer removes significant downside risk and leads to access to new markets.
- An ongoing stock buyback, coupled with strong cash flow and low capex requirements could lead to a substantial reduction of the share count.
- Management is likely being far too conservative with 2015 guidance, given strong Q1 results and lucrative developments currently underway.
Some of my long-time readers may have figured out by now that I have a somewhat unhealthy obsession with the payment processing industry. I love it like a fat kid loves cake. My reasoning for this is pretty simple: It's highly predictable, with recurring revenues and strong operating leverage. For that reason, it probably comes as no surprise that smaller companies in this industry have a high likelihood of being acquired, and typically for impressive premiums. However, there are only a handful of small processors that are publicly traded, and even fewer that trade at valuations attractive enough to warrant an investment. Last year, I wrote about Payment Data Systems (OTCQB:PYDS), a stock that is now up over 200%, and is still probably undervalued. Before that, it was LML Payment Systems and Digital River (NASDAQ:DRIV), two companies that would eventually be acquired for triple-digit premiums. And now, I've got my sights set on Planet Payment (NASDAQ:PLPM).
Planet Payment provides international payment, transaction, and multi-currency processing services. The company provides payment processing services that allow the authorization and settlement of payment transactions by providing the connections between the merchant, its bank, and the card association. Its multi-currency processing services, consisting of Pay In Your Currency, Shop In Your Currency, and Bank In Your Currency, are designed for customer-facing terminals, integrated front-desk systems, ATMs, and online e-commerce gateways. The company delivers its payment processing and multi-currency solutions to 70 financial services institutions around the world. Services are currently deployed at 105,000 active merchant locations in 23 countries and territories across the Asia-Pacific region, the Americas, the Middle East, Africa and Europe.
I first became interested in investing in this company late last year, after the stock had dropped precipitously from its trading range of $3-4 to about $1.50. I had known about the company for a number of years, but at that time, its valuation relative to its fundamentals was not attractive enough for me. However, over the past 6 months or so, and thanks largely to a new management team, the financials have been rapidly improving. Curiously, despite these improvements, the stock is still trading significantly below valuations it enjoyed just a few years ago. For this reason, I have continued to add to this position over the past few months, and it is now one of the largest in my portfolio.
In late March, the company reported fourth-quarter results that showed the tide was turning. Revenue increased a modest 7%, but net income grew 900% to $2m, from $200k in the year-ago period. And just a few days ago, the company followed up with solid first-quarter results that saw revenue increase 9% and net income improve dramatically to $1.7m, versus a loss of $(800,000) in the year-ago period.
The company reaffirmed its revenue, net income and adjusted EBITDA guidance for the full-year 2015, which was a little surprising given the strong first-quarter results. Typically, the first quarter of the year is the weakest for payment processors, and results get sequentially stronger as the year progresses. Management's guidance for revenue in the range of $49.0-51.0 million, net income in the range of $6.0-7.0 million, and fully diluted earnings per share in the range of $0.09-0.11 (based on 56 million fully diluted common shares outstanding) seems conservative, to say the least. That guidance essentially means there will be no sequential growth from Q1, which seems unlikely given past history and the projects currently underway. This tactic screams "under-promise and over-deliver", and management has even admitted these estimates are conservative.
The company's CEO, Carl Williams, updated shareholders on the first quarterconference call about some of the company's new growth initiatives:
Moving then to our focus for the remainder of the year, we see a healthy pipeline of new business driven primarily by two channels. First, our relationship sales team continues to have success aggressively cross-selling products to our existing customers. As an example, we are in active conversations with several of our existing Pay in Your Currency at point-of-sale customers in Latin America and CEMEA around the expansion of the service to their ATM networks.Additionally, we are seeing continued strong demand from our existing customers for our MICROS Payment Gateway Solutions which deliver an integrated hospitality solution with support of our Pay in Your Currency service. In addition, our sales and marketing teams continue to sign new acquirer customers that will serve as a source of new merchant locations in the short and medium-terms. By way of example, we are currently in the process of launching Pay in Your Currency with new acquirer customers in certain existing markets in Asia-Pacific and our CEMEA region.In the United States we anticipate the launch of Pay in Your Currency with one of the largest providers of quasi cash transactions. Finally, as we look to the remainder of 2015, we anticipate expanding our geographic footprint through the launch of Pay in Your Currency with partners in several new markets around the world. Our results in the past quarter further demonstrate that our commitment to our strategic plans is placing Planet Payment on a path for improving growth and profitability.Our team's dedication to maximizing the success of our existing customers along with our renewed business development focus has delivered increased merchant locations which we believe will drive transaction volume growth for the remainder of 2015 and beyond. Additionally, our disciplined approach to support our high-margin offerings and shedding of business lines with unprofitable revenue together with our focus on operational efficiency has positioned the company for improved financial performance going forward. With our commitment to the plan, the ongoing transformation of Planet Payment into an efficient sales centric organization will continue as we look ahead to the future."
Additionally, and possibly most important of all, the company announced a new and expanded 5-year contract extension with its largest customer, Global Payments (NYSE:GPN), which accounted for approximately 21% of Planet Payment's revenue in 2014. Planet's CEO commented:
Another significant development involving our Pay in Your Currency business was the recent extension and expansion of our contract with Global Payments. This new contractual arrangement signed late last week extends our partnership for an additional five years. The contract extension covers all of the 13 markets currently offering the service and also expands our partnership to offer Pay in Your Currency in new countries currently served by Global Payments. We are excited to continue our work with Global Payments in our existing markets across Asia-Pacific and the Americas and to extend our successful partnership into new geographies."
So, as our friends in Hollywood would say, let's cut to the chase. What is Planet Payment worth, and where should it be trading? Companies in this industry tend to demand higher multiples on earnings, due to the business's predictable nature and recurring revenue streams, not dissimilar to subscription-based revenue models. Further, the business model has significant operating leverage, where a high percentage of each incremental dollar of revenue falls directly to the bottom line. For this reason, companies in this industry typically trade for around 25x earnings, despite only moderate growth rates.
If you believe management's conservative estimates of only $0.09-0.11 EPS this year, then the stock should be trading for roughly $2.25-2.75 a share, which is on the low end of where the stock is currently trading. But considering the company already touched $0.03 in EPS in the historically weakest part of the year, it's not a stretch to say it couldn't achieve $0.14-$0.15 EPS in 2015. In which case, that would value the company in the $3.50-3.75 range, roughly 60% higher than current prices. Further, 2016 is shaping up to have some considerable tailwinds as new markets are penetrated and the 2016 Olympics comes to Brazil, where Planet Payment has a considerable footprint, thanks in large part to a relationship with Cielo (OTCQX:CIOXY), the largest payment processor in Latin America. My current estimates have 2016 EPS at $0.20, which would value the company around $5 a share, 120% higher than current prices.
Planet Payment has a strong balance sheet, with $11.3m in cash and less than $1m in debt, which significantly mitigates downside risk. Further, the company has an active share buyback program, which allows it to repurchase $6m worth of stock through the end of 2015. Planet Payment has currently repurchased 1.3m shares under the plan, for an aggregate price of $2.2m. It is likely the company will generate around $8m of free cash flow in 2015, and with low capex requirements, I expect it to continue to be aggressively buying back shares as long as the stock remains undervalued. If this trend continues, the company could significantly reduce its share count in the years ahead.
I also believe there is a decent probability that Planet Payment could be acquired by a larger payment processor in the months or years ahead. In fact, in late March, Global Payments acquired Dublin-based Realex Payments, a company very similar to Planet Payment, for around $130m. In 2014, Realex saw $20m in revenue and $2.4m in net income. Compare that to Planet Payment, which will make in excess of $50m in revenue and at least $6m in net income, and currently trades for an enterprise value of $110m. Valuing Planet Payment using the multiples Global Payments paid for, Realex would yield a share price of $5.80 - 157% higher than current prices.
At current prices, I believe Planet Payment represents compelling asymmetric risk/reward. The contract extension with Global Payments removes a significant uncertainty, and the business's predictable nature, strong cash flow, and healthy balance sheet should significantly mitigate downside risk. As is the case in investing in all small companies, there is a higher degree of unique risk. Changes in the macro economy that resulted in lower international travel, or spending, could have an adverse effect on Planet's business. My current 12-month price target for Planet Payment is $4.50, roughly 100% higher than current prices. I believe the downside risk is only 10-20% from current levels. This risk/reward trade-off is generally a bet I will take every time, and I have - and big.
Editor's Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.
Disclosure: The author is long PLPM, PYDS.
Disclosure: The author is long PLPM, PYDS.
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