The omicron variant caused problems for many companies, and Euronet (NASDAQ:EEFT) was no exception, as the company’s ATM business remains quite sensitive to European tourism. At the same time, however, I have to wonder if the street is paying too much attention to the ATM industry and too little to the growing opportunities in cross-border business payment transactions.
Anyway, stocks are still down about 5% since my last update, and that’s at least better than Fidelity National’s performance. (NYSE: FIS)Global Payments (NYSE: GPN)Western Union (NYSE: WU), neither of which are great comps but at least directionally useful. I continue to believe that Euronet can deliver long-term revenue growth of around 7% with FCF margins improving in the mid-teens over time, and that supports a potential annualized total return at two digits from here.
European travel remains a headwind
Air traffic in Europe (according to EUROCONTROL) had improved towards the end of 2021, but the omicron variant created a partial reset, with traffic falling from around 80% of pre-pandemic levels in November and December to 68% in January and 71% in February. At this point, I still think normalization at the end of 2023 is a credible outcome, but Russia’s invasion of Ukraine creates potential risks.
Euronet has seen a continued recovery in ATM business despite headwinds from tourism (it’s not just a European business, but Europe is driving a lot of it). Transactions increased by 42% overall, with ATM transactions up 25% from prior year level and Y21 ATM transactions up around 24% on an annualized basis, as the company continues to adjust its footprint in favor of better performing locations.
Revenue per transaction was up 18% year over year and quarterly revenue was up 6% annualized over two years, although adjusted EBITDA was down about 12% over two years.
Nothing has really changed with my view of this company. I continue to see Euronet as a net beneficiary of retail banking branch closures, as many bank-owned ATMs in Europe are located in the branch, with these closures creating more opportunities for Euronet to fill the void. There may also be longer-term opportunities in acquiring traders, but I think management will see how the acquisition of Bank of Piraeus Merchant acquisition deals come before committing further.
Money transfer is more than just remittances
Euronet has been building its money transfer capabilities, including global agent locations, for years, but I think the “behind the scenes” growth in the company’s capabilities might still be underestimated.
Euronet has access to approximately 3.7 billion customer bank accounts and 439 million digital wallets, and the company has done the “heavy lifting” needed to build a scalable cross-border money transfer business with visibility into its operations ( so customers can monitor the progress of the transfer in real time). It’s not just useful for people looking to transfer money to family or trips that suddenly need cash, it’s a pretty fundamental capability within the payments ecosystem in the sense large.
Recognizing this and the growing demand for ‘banking as a service’ capabilities, Euronet has integrated much of its in-house capabilities into Dandelion – a cross-border payments solution that can be integrated as an app into other software systems. This means that fintechs, banks and corporations can access Euronet’s payment system, thus incurring fees for Euronet.
While Dandelion seems to focus on cross-border transfers, which is a relatively rare capability compared to intra-national transfers, I don’t see why the platform couldn’t be used for transactions inside a national border, making Euronet an even more valuable potential for fintechs and banks looking to offer payment services to consumers and businesses. Although the fees generated by these transactions are not as significant as those that Euronet currently generates in its money transfer business, the additional margin on these digital transactions should be very significant.
Over time, I expect Euronet to grow its influence on digital payments, as the company has a lot of core expertise here – the epay business connects consumers, outlets and providers of consumer services/products such as digital media (Apple (NASDAQ:AAPL)netflix (NASDAQ:NFLX)et al), and can handle fully digital payments, while money transfer operations are built on an international digital payments network.
While Euronet can’t really create an impassable moat, the regulatory challenges of building such a network make it impractical for smaller players, especially when those payments won’t be the core of the business.
I still expect long-term revenue growth of around 6% to 7%, as Euronet’s FY21 revenue was broadly in line with my estimate (1.5% better); I expect more and more of Euronet’s future revenue to be driven by digital payments, although the ATM-based business isn’t going away anytime soon.
On the margin side, Euronet came in a bit weak in 21, and I’m a bit more cautious here. Longer term, I think low to medium FCF margins should be achievable, but this is a significant increase from the long-term average of around 9%. With normal trading volumes, the ETF business is quite profitable and I expect strong additional margins from Dandelion (money transfer). All told, I expect double-digit growth in FCF, and there would be an advantage here if sustainable FCF margins were actually north of 15% over the long term.
The valuation is interesting. On discounted cash flow, equities look pretty undervalued to me, with low double-digit total annualized return potential (close to mid-teens if 15%+FCF margins are in play).
On EV/EBITDA, however, using a forward multiple of 11.5x consistent with the recent multi-year trend of 11x-12x (and also consistent with short-term margins and ROIC) brings me back to around $130 – still a double-digit return from here, but not as impressive. Again, 2022 is still expected to be a below normal year for ATM business and EBITDA; if i use my 2023 number and 10% discount i get a number over $150.
I have to admit that Euronet seems cheap enough to make me wonder what I’m missing. Yes, epay is somewhat dilutive to margins and revenue growth, but it should generate good cash flow. Likewise, I feel nervous about traveling to Europe and maybe competitive risks/threats in money transfer, but that seems overdone. I think there is above average risk here, but the reward for that risk looks pretty good right now.