Profit as cash goes mobile

Apple’s new toys may be thrilling for tech geeks, but the real excitement for investors lies in its new payment system, says David Thornton.

Last week’s product launch love-in at Apple showcased its new smartphone – the iPhone 6 – and its long-awaited venture into the ‘wearable’ technology market – Apple Watch.

The gadget geeks and tech pundits have been falling over themselves to pass judgement on these ‘sexy’ new pieces of hardware. However, one key aspect of the product launch got rather lost in all the talk of designer watch straps – Apple Pay.

While it may not seem as exciting as the new toys, Apple Pay has the potential and scope to be a much more disruptive force than either. And even if Apple falls short, it’s just the latest entrant looking to revolutionise the way we pay for goods and move our money around the world, via mobile commerce (m-commerce) and mobile banking (m-banking).

At the heart of this revolution is the rapid adoption of the smartphone. The first iPhone was sold only seven years ago, but it’s estimated that there were an incredible 1.4 billion smartphones in use during 2013. Come the end of this year, that’ll have grown by 25%. By 2015, we’ll be through the two billion mark.

In many individual countries, more than 50% of people own such devices. The sheer scale and rapid growth in smartphone use is in turn fuelling dramatic growth in m-commerce – with more and more people going online via mobiles (or tablet computers, such as the iPad) to buy goods.

Yet, while using smartphones to pay for goods or to transfer money is hardly a new idea, many businesses have been slow to react, particularly when it comes to embracing new, more convenient payment systems. As a result you can find some of this industry’s leaders in odd places – such as East Africa.

The idea of a revolutionary new technology emerging from one of the world’s poorest regions may sound odd. But I recently spent six years running an emerging-markets fund, which taught me not to underestimate just how sophisticated some companies and economies can be in the emerging world. You need only look at Kenya’s mobile-payments market to see this.

Safaricom, which is 40% owned by Vodafone, has over 20 million mobile subscribers in Kenya, most of whom use its M-Pesa payments system. In short, as well as buying and storing airtime credit on their phones, M-Pesa subscribers can also store cash.

This lets them use their mobiles to pay utility bills, send money to anyone else’s phone or bank account, or to receive payments. Transactions worth more than 30% of Kenya’s GDP pass through the M-Pesa system – it is no exaggeration to say it is now central to the functioning of Kenya’s economy. In fact, I can say from personal experience that M-Pesa makes it easier to pay a taxi fare in Nairobi than in New York.

So, why have mobile payments been far more enthusiastically adopted in Kenya than in most of the West? It’s all about infrastructure – or rather, the lack of it.

In Kenya and many other emerging markets, far fewer people have bank accounts, or access to a branch. Nor is there a 50-year-old credit-card network with terminals in every shop, as there is in the UK.

But one thing most people do have is a mobile phone, which can connect them far more efficiently to the economy than the financial services sector or the country’s poor transport links can.

Virtual infrastructure

This ability of the internet and mobiles to create a sort of virtual infrastructure can also be seen in the world’s biggest emerging economy – China. China is already the world’s largest single mobile market, with more than 500 million smartphone users.

More than 50% of its population is expected to have one by 2018 – only five years after the US passed the 50% penetration level. China’s physical infrastructure is hardly lacking, but the internet has been very effective at filling in the gaps, as the success and imminent listing of online giant Alibaba shows.

Alibaba is an online marketplace – it brings buyers and sellers together in the same way as eBay. What is really striking about Alibaba is its scale – last year it processed 14.5 billion transactions worth $300bn in total, and it continues to grow at a 50% annual clip.

Alibaba’s 280 million regular customers accounted for 8% of China’s total retail sales in 2013. To put that in context, only 6% of all US retail sales were made online in 2013. But one aspect of the Alibaba float serves to highlight where much of the value in these online transaction businesses lies.

Jack Ma, Alibaba’s founder, isn’t selling its related payments platform, Alipay. You see, payment processing is a hugely attractive business if you can get it right – it’s an unglamorous but vital cog in the commercial world. In many ways, it’s just like a utility, only with a lot more potential growth. Again, this is similar to eBay, which owns PayPal.

Activist investor Carl Icahn reckons the real value in eBay lies in PayPal rather than in the auction website itself. He is agitating for PayPal to be spun out, believing it will release extra value.

The problem for these online payment processors is that – unlike Kenya – the West has plenty of existing payments infrastructure and ingrained habits that new approaches must overcome. Most of us have a range of cards in our wallets, along with a bank account. And we’re apathetic – we need a real incentive to change the way we pay for things or the bank we use.

It’s the same from the providers’ standpoint. The banks and credit-card networks are oligopolies, and can get away with charging high fees – change isn’t top of their agenda either.

As M-Pesa has shown, the technology to create a better system exists and can be implemented fairly easily – but it is incredibly hard to force an entrenched system to evolve.

The US hasn’t even adopted ‘chip-and-pin’ credit cards yet, even though it means fraud levels are higher as a result, which in turn means fees are also higher than they should be to compensate.

Apple leads the revolution

So what will make the difference? What will bring mobile payment into the mainstream? There are two main things, and both boil down to what Apple chief executive Tim Cook calls the “user experience”. Cook wants to make payments “cooler” and more convenient. That’s why the new iPhone has a secure near-field communication (NFC) chip.

This allows a payment to be made simply by holding the phone an inch or two away from the retailer’s terminal. All of your credit and debit cards can be stored in the phone’s ‘passbook’ and there’s been a lot of focus on encryption and security.

Why is Apple pushing this? For sound commercial reasons – mobile payments are yet another way for Apple to tie you into its ‘ecosystem’. As with the iTunes music download service, Apple Pay is one more reason not to go through the hassle of switching from an Apple to an Android phone.

So far, Apple has deals with the major card networks Visa, MasterCard and Amex. It is also thought to have used its clout to negotiate discounted fees with them. And the contactless payment infrastructure Apple Pay needs is already established in the UK and is growing.

There are close to 200,000 terminals – 20% more than a year ago. Transport for London has already made contactless its default payment system through its own pre-paid Oyster card, and this week started to accept other contactless cards, including enabled smartphones, for tube journeys.

This is the sort of thing that changes consumer habits and will drive increased usage elsewhere. MasterCard also plans to make contactless terminals compulsory for its European merchants by the end of the decade. By then we could well be using our smartphones on them, rather than a plastic card.

Making mobile shopping easier

The other main driver will be companies keen to generate more sales via ‘m-commerce’ – buying stuff on your mobile. Studies have already shown that while one in 40 visitors to a retail website on a PC or laptop will buy something, just one in 200 do so on a mobile.

You can understand why. If you own a smartphone, you’ve almost certainly become frustrated at some point, trying to zoom in to read a standard website’s tiny script on a mobile. It gets worse trying to enter checkout details into minuscule boxes with fat fingers.

Designing a website so that its pages are tailored for a smaller screen has a big impact on a retailer’s mobile sales performance. Making it easier to make payments – by integrating a wallet or payment mechanism with your smartphone – has a similar effect.

With Apple Pay, you only need to make a one-off entry to store your various card details on your phone. After that, m-commerce becomes a lot simpler. It should mean you can buy things with a single click – in the same way as clicking the PayPal button provides automated payment when you check out on eBay.

Retailers have every reason to make the change. Those who do online and mobile better than others see the results in their performance. Just look at Next and Marks & Spencer. Last year, Next’s online directory business accounted for 37% of total sales.

In the same period, M&S made only 16% of its general merchandise sales online. No prizes for guessing which has been the better stock to own. The internet has also enabled online-only businesses such as Asos to emerge and flourish.

Even online retail behemoth Alibaba faces a potential challenge from m-commerce. It has 188 million mobile users – impressive, but hardly dominant in a country with 500 million smartphones.

Transactions carried out via mobile are less profitable for Alibaba than those via personal computers. It goes to show that having a mobile offering that is as effective as a ‘big screen’ website matters to all online businesses – regardless of country.

In short, it’s clear that retailers have to rise to the online and mobile challenge, or they’ll be doomed to be also-rans as our shopping habits change.

Yet limited resources and a lack of focus mean that around 75% of smaller and medium-sized retailers don’t yet have a mobile-enabled website. So there’s a big opportunity for firms that provide the software and services to enable m-commerce.

Some larger firms do a lot of work in-house, but there’s an army of smaller specialists – many listed here in the UK – providing outsourced expertise. This means it’s possible to get exposure to some really focused plays on this massive theme. I’ve mentioned several in the box below.

The stocks to buy now

eServGlobal (Aim: ESG) is a play on mobile payment software. Much of its value – 50p per share, according to one broker – lies in its HomeSend joint venture with MasterCard.

This enables international payments to be made and received by mobile phone. The market for overseas remittances is huge (currently around $500bn) and growing, as migrant workers send money to families back home.

Doing this via normal banking channels or a Western Union-style transfer office can be expensive and time-consuming.

HomeSend provides a near-instantaneous, cost-effective transfer. The company also sells domestic mobile financial software to network operators in emerging markets.

Staying with the international payments theme, Earthport (Aim: EPO) has developed a platform that slashes the costs incurred by banks making low-value cross-border transfers. It has signed up some big names, led by Bank of America.

The World Bank has a stake in the company, which both endorses the technology and reflects the importance it places on cutting the cost burden faced by poor families receiving remittances.

Although EPO isn’t a direct play on mobile money, it’s exploiting an opportunity created by the inefficiency of the incumbent banking industry. Sales could double next year as EPO moves into profit.

Optimal Payments (Aim: OPAY), meanwhile, is on a roll. Its Neteller service provides e-commerce wallets for consumers, while its Netbanx unit processes online payments for merchants. Optimal is particularly well positioned to take advantage as the American market for online gambling reopens.

Two recent acquisitions have boosted its presence in America and diversified its customer base. Given the strong growth rate, next year’s price/earnings (p/e) ratio of 18 seems very reasonable.

Monitise (Aim: MONI) focuses on mobile money technology. Over 350 financial institutions, including blue chips such as RBS, HSBC and Visa, outsource their mobile banking services to the Monitise platform. A slowdown in revenue growth saw its shares slip from a high of around 80p earlier in the year to 45p now.

Yet despite the slowdown, revenues still grew by more than 30% in the year to June, with at least another 25% growth expected this year.

By 2018, Monitise is confident of achieving 200 million registered users, generating £500m of revenue. It’s an interesting option as a sector leader in mobile banking.

My next three shares are recently listed micro-caps focused on various ‘m-commerce’ niches. They’re all immature and high risk, but they’re well worth keeping an eye on, given the upside potential.

The first is MoPowered (Aim: MPOW), which has developed a software platform that allows easy conversion of traditional retail websites into mobile-friendly versions. It has worked with large names such as Next and Superdry, but also aims to grow by designing and hosting m-commerce sites for small- to medium-sized enterprises.

It takes a monthly rental fee and a revenue share of transactions going through the client’s site. The opportunity is clear if management can get it right. But since listing, sales have been slower to develop than hoped, and the company – which is still loss making – might need to raise more funds at some point.

Mi-Pay (Aim: MPAY) offers mobile operators an outsourced payments service. It enables pre-paid customers to top up their phones using the full range of payment methods via a wide range of channels – on-device, online, and in a social media app.

Customers include Vodafone, O2 and Tesco Mobile. More than 70% of global mobiles are pre-pay, and as well as managing the payment, Mi-Pay collects data that aid client retention and boost customer spending.

There is natural growth in themobile market, but also scope to expand into other aspects of m-payments. It listed in April and expects to be cash-flow positive next year.

Attraqt (Aim: ATQT) isn’t a payments company, but it is an example of the specialist opportunities that arise as e-commerce develops. We can have marvellous mobile and online infrastructure, but it’s no use if a retailer doesn’t present us with the right products when we visit its site.

Attraqt’s software helps a retailer transfer the merchandising skills it uses in a physical store into the virtual world. So website visitors will see products ordered by relevance, rather than according to the alphabet or price, which should lead to higher sales.

More than 90 live websites are using Attraqt. The shares have only been listed for a few weeks and inaugural interim results are later this month.

As for other options, I wouldn’t buy Apple (Nasdaq: AAPL) shares purely on the basis of Pay – profits will still be driven by device sales.

NFC (near-field communication) chipmaker NXP Semiconductors (Nasdaq: NXPI) is also an interesting play, though it’s more of a hardware stock. I agree with Carl Icahn that eBay (Nasdaq: EBAY) is interesting if PayPal is spun off.

• David writes the Red Hot Penny Shares newsletter. You can read more about the opportunities in mobile payments at

Monitise update

Just after we went to press last week, shares in Monitise slid sharply on news that Visa is ‘assessing’ its stake in the company. 

We asked David to update his view – here’s what he said: “Monitise remains a prime play on mobile-banking software with a blue-chip client list. Visa plans to review its shareholding and to do more mobile software development internally, which caused last week’s fall.

“Visa backed Monitise from its early days in 2009 – the threat is not Visa selling its 5% stake in the firm, but the risk of other banks also deciding to take this mobile specialism inhouse.

“But we have yet to see any evidence of this. Monitise still expects to be profitable in 2016 and to have a turnover of £500m with Ebitda (earning before interest, tax, depreciation and amortisation) of at least £150m by 2018. Three directors bought shares on Thursday and Friday.”


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