Visa — A leading payments network provider?

21 min readNov 11, 2021

Attached in this story is an initiated research report on Visa (NYSE:V)

In this report, I include:

Business Overview
Industry Overview
Investment Thesis
Financial Analysis
Valuation
Investment Risks
Financial Model (Annex)

Further, the equity research report includes a deeper dive into the payments eco-system, including (1) payment network processers, (2) end to end digital payment systems, (3) mobile wallet eco-systems, and (4) a brief outlook on decentralised finance.

1. Business Overview

Founded in 1958, Visa (NYSE:V) is a global market leader in digital payments, acting as a payment network processor intermediary that facilitates global transactions amongst different stakeholders (consumers, financial institutions, businesses and merchants, etc). Visa concluded FY21 with US$13T in total payment volume and 232B processed transactions globally, thus achieving a record breaking US$24.1B in net revenue.

Visa operates a “four-party” model (Fig 1) — facilitating secure, reliable and convenient transactions among financial institutions, merchants, and consumers. Following the rise of fintech disruption via open and digital banking, mobile wallets (open/closed loop systems), and cryptocurrencies (decentralised finance), Visa has continued to branch beyond the traditional model, partaking in these new market segments as mentioned above. Some prominent innovations/enhancements include:

(1) Advancements of VisaNet

VisaNet, Visa’s bread and butter service in facilitating payment transactions, recently unveiled VisaNet AI+, a suite of AI-powered services including the likes of

(a) Smarter Posting: Provision of real time visibility into consumers’ finances/transaction history

(b) Smarter Settlement: Enablement of treasury teams across corporates/financial institutions in predicting daily cash volumes and making strategic decisions across a customised 7-day forecast

(c) Smarter Stand In Processing (STIP): Authorisation of transactions despite outages, as its current capabilities help to generate an informed decision to approve/decline transactions on behalf of issuers.

These value-added services help to entrench stakeholders within Visa’s network and possibly create new revenue streams within transaction processing.

(2) Visa Developer

Visa Developer (Fig 2) is an open-source framework that allows corporates/developers to build various systems/products while utilising Visa’s source code. The frameworks provide an array of services across different categories such as commercial payments, payment methods, data analytics, and security. These advancements allow Visa to penetrate the eco-system via:

(a) Providing more retailers/merchants with ease of convenience to integrate with Visa depending on their needs. For example, Walmart, NFL and Starbucks have integrated with Visa to adopt online check out services within their websites due to better user experience and higher conversion rates in payments.

(b)Accessing new market segments that Visa has yet to establish a footing in, especially the likes of P2P/B2B/BNPL transactions within mobile wallet eco systems. Although Visa does not posit a market leading position within these nascent eco-systems, Vasant Prabhu (CFO) opined Visa to minimally grab some parts of the value chain based on existing Visa frameworks that new products/services can be built on — thus Visa is able to charge for API calls, etc.

(3) Visa Direct

Adding to Visa Developer, VisaDirect is Visa’s in house network that facilitates new flows, such as P2P, B2B and G2C payments. Particularly for B2B transactions, Visa devoted a deeper focus in grabbing more market share in the nascent space due to various pain-points being faced (Fig 3). For example, Visa established partnerships with Veem, Credorax, Ignition, Ramp and Standard Chartered Bank over FY21 to facilitate cross border B2B transactions across Europe, Latin America and USA. These initiatives will subsequently support virtual card capabilities, spur growth in new payment flows, and drive incremental volume over time.

Further, recent acquisitions for FY21 include (1) Tink (US$2B) — a leading fintech start-up focusing on open banking APIs in Europe and (2) CurrencyCloud (US$800M) — a fintech start-up providing forex solutions for cross-border payments. Acquisitions of these start-ups help Visa to navigate an unchartered territory within Europe and possibly fortify its dominant market position, as recent development in regulations could result in competition of Visa’s market share (Fig 4).

Business Model

Visa has 3 key revenue streams, which are supported by client incentives (Fig 5):

(1) Service Revenue

Service revenues are what the company earns for services provided to card issuers for the use of Visa’s products. The primary driver of this category is payment volume, which Visa takes a % take-rate off the transaction value. A unique property of this revenue stream is that it is a built-in hedge against consumer inflation — since if cost of goods rises due to demand-pull/supply-push inflation, Visa’s revenue scales accordingly with the cost of goods and services.

(2) Data Processing Revenue

Data processing revenues are fees that Visa collects for the authorisation, settlement, clearing, and other various access and maintenance fees for using its vast payment network. These revenues are based on the number of transactions made on Visa’s network and not the amount of payment volume. For further elaboration: (1) Authorisation is the process Visa routes the transactions from Point-Of-Sale (POS) to the card issuer for approval, (2) Clearing is the exchange of transaction information between the issuer and the acquirer of the transaction, and (3) Settlement is the facilitation of the actual exchange of funds involved between the involved parties.

(3) International Transaction Revenue

Fig 5: FY21 Revenue

International transaction revenues are earned for cross-border and currency conversion activities. These revenues are generated whenever a card holder purchases a good in a country different from the card-issuer’s country or origin. This revenue stream is typically sensitive to economic cycles, especially virus outbreaks or act of terrorism/political instability that will affect the region’s tourism industry. It also means Visa is affected by the strength of the US dollar more than most companies.

Business Model

Visa has 3 key revenue streams, which are supported by client incentives (Fig 5):

(1) Service Revenue

(2) Data Processing Revenue

(3) International Transaction Revenue

(4) Client Incentives

Client incentives are deduction from the sum of the 3 revenue streams above. They are monetary payments to Visa’s partners to build product acceptance, build payment volume, and routing of transactions to Visa’s network.

Corporate Governance

Visa has an exemplary governance structure to facilitate future growth via board of directors, executive management and compensation, and shareholder rights.

(1) Board of Directors (BoD)

Visa’s BoD (Annex A) comprises of 12 key members. possessing knowledge and experience across relevant fields that are integral for Visa’s future growth. More than 60% of the directors have >5 years of experience, coupled with ethnic diversity, gender equality, and payments and technology domain knowledge.

(2) Executive Committee

The executive committee comprises of 6 members (Annex B), responsible for the day-to-day operations and future growth of the company. The team is highly experienced and has relevant education and background experience –including finance, marketing, consumer banking, technology and information security, which contributes to Visa achieving its long term goals. The C-suite to work pay ratio is a reasonable ratio of 195:1, way below the usual average of 320:1. This is attributable to Visa’s vision on investing in its workforce. Renumeration of the executive committee is also linked to the performance of the company, as cash incentives are pegged to 50% of the annual fixed base salary. This ensures that the committee are intrinsically motivated to make strategically sound and profitable decisions for the company.

(3) Shareholders

Visa enjoys a diversified base of institutional shareholders (Vanguard Group, Blackrock, T. Rowe Associates, State Street Corp, Morgan Stanley, etc) (Fig 6). Further, the company has a less than 10% equity concentration from each significant shareholder, thus ensuring diversity and prevention of price crashes via sudden sell-offs.

2. Industry Overview

The payments industry (Fig 7) has been growing ever since economies gravitated towards cashless payments from the general usage of cash transactions. This is coupled with a rising middle class who use credit/debit cards for various purchases of goods and services, contributing to the increasing average order value and number of transactions. Further, the industry is poised to grow at a 7.3% CAGR to US$2.1T in 2025 with the following demand drivers as the global economy starts to recover post COVID-19.

(1) Gradual re-opening of economies

As 40% of the global population is fully vaccinated, the United Nations World Tourism Organisation (UNWTO) opined a gradual recovery of global tourism with a high probability of hitting its pre-pandemic levels between at mid 2023, with domestic tourism seeing recovery as early as mid 2022. Further, vaccinated travel lanes amongst countries have been expanding and this has resulted in an uptick in travel demand. As a result, a “ripple effect” will be experienced in the payments industry as revenues via credit cards and cross border transactions will increase within the next 24 months.

(2) Growth in E-commerce

The COVID-19 pandemic has brought about a shift in sales from brick-and-mortar outlets to e-commerce, as seen by high revenue growth in e-commerce players along the value chain such as SEA Group, Amazon, Coupang, Pinduoduo, Shopify, etc. The industry is still poised to grow at a 14.1% CAGR to US$7.4T in 2025 (Fig 8) as brick-and-mortar outlets remain diversified in their sales outlets and a growth in in Average Order Value (AOV) with rise of the purchasing power of an average middle-class individual across the globe. Visa will have ample opportunities to be a leading payment processor in this space, given how the executive committee has been establishing partnerships with merchants, credit card providers, and payment gateway providers.

(3) Continued industry consolidation and M&A

Across the diverse payment industry market segments, market leaders in each aspect of the value chain have been acquiring the toeholds or other segments to gain a stronger overall footing — evidenced by notable Paypal-Honey, Paypal-Paidy and Square-Afterpay acquisitions. Visa has also acquired notable fintech start-ups such as Tink and CurrencyCloud. Further, newer market segments such as BNPL/P2P transactions and mobile wallets will result in more acquisition/consolidation activity in the next few years.

Competitive Positioning

Visa’s competitive position (Fig 9) is anchored in its large payment network, economies of scale and merchants onboarded — thus creating a sticky platform usage. In a more traditional payment processing competitive analysis, we can identify that thus far, Visa has been the market leader in the payment network space (over 60% of payment volume, transactions and cards belongs to Visa). However, constant disruption of the fintech industry and creation of new market segments could throw Visa off its footing in the long run. An analysis of sub-segments in the payments industry will help to map out the competitive space, showing if Visa can withstand market disruption and hold its position as a market leader in the long run.

(1) Payment gateway providers

With the proliferation of e-commerce, payment gateway providers (Stripe) have been essential in the online payment value chain. Companies operating in this segment facilitates online payments where a credit/debit card is not physically present, creating a secure connection between the card issuer and the online shopping website. Payment network providers on the other hand (Visa) handles the card transaction, which is encrypted data from the payment gateway provider (Fig 10). Hence, these two stakeholders do not compete with each other but form a segment of the entire payment value chain. However, these payment gateway providers could look into expanding their suite of services and gradually look to support a payment network should economies of scale be enticing enough. I opine this to be rather unlikely since establishing over 60 years of a network effect like Visa is a huge barrier to entry, thus these players will remain to branch their services across different shopping sites/applications and remain as a gateway provider instead.

(2) Mobile wallets

Recently, there has been a proliferation of mobile wallet providers from banks, digital payment providers, and large conglomerates. The mobile wallets aim to possibly eliminate payment network intermediaries out of the value chain (Fig 11), thus saving in transaction fees and having consumers’ dataset to create new value streams (loans, working capital financing, reward systems etc). Thus, mobile wallets pose a huge threat to the payment network incumbents so long as user uptake growth and monetary transaction remains within the wallet’s eco-system. Mobile wallets can be further categorised into

(a) Open-loop: Able to transact with different merchants when payments are made (E.g AliPay, GooglePay, CashApp, PayPay, GrabPay, etc)

(b) Closed-loop: Created internally for consumer related conglomerates where one uses the wallet for transaction within the conglomerate’s outlets. (E.g Walmart, Starbucks)

(3) End-to-end digital payments (acquirers and processers)

Square and Paypal are notable market leaders although they have different origins. Paypal originally provided online payment processing by granting the ability to transfer funds electronically between individuals and businesses, like a payment processing network but for online payments (usage of ACH — Automated Clearing House) (Fig 12). Over time, the company now acts as an acquirer, payment gateway, network processor, etc, and even created its own mobile wallet (PayPay), with the goal of creating an eco-system so that monetary value doesn’t leave PayPal (further elaboration on mobile wallet analysis below). On the other hand, Square initially provided Point-Of-Sale (POS)/magnetic stripe reader services focusing on SMEs), and subsequently branched into a mobile wallet (CashApp), with a similar goal of retaining monetary value in its own eco-system. These companies pose a significant threat to payment network bigwigs as they have established a footing in another aspect of the payments landscape and yet aim to eliminate the intermediaries by creating their own eco-system.

(4) Decentralised finance and cryptocurrencies

Eventual progress in blockchain protocols has created specific chains focused on decentralised finance such as Ethereum, Solana, and Luna (powered by Terra). Subsequently, a myriad of projects have been created off these initial chains that enable decentralised finance. For example, Terra Luna supports transaction and staking of stablecoins that offer instant settlement, low fees, and seamless cross border transactions. Despite DeFi’s infancy and relatively low uptake, such disruption can not be ignored as its threat is more significant than the uptake of mobile wallet transactions.

Porter’s 5 Forces

After reviewing the industry and the broader competition against Visa, a porter’s 5 forces analysis shows threat of substitute products as one of the strongest threat and most imminent should user uptake and preference growth exponentially (Fig 13, Annex C). As a result, Visa looks to mitigate its risk via different strategies, which will be explained in the risk segment further into the report.

3. Investment Thesis

Despite stellar Q4 FY21 earnings to close out a strong financial year for Visa, the stock price has been corrected by almost 20% due to conservative management estimates for FY22 and upcoming litigation settlements on its “swipe fees”. However, Visa has potential tailwinds that can act as a further catalyst for its increase in share price.

(1) Growth in Visa’s revenue in APAC region

Visa’s APAC payment and transaction volume have been relatively muted due to its closed economy — its total revenue 30% below 2019 figures. As such, the re-opening of key countries in APAC region is a key variable in Visa’s top-line growth. As of end 2021, countries such as Singapore, Indonesia, Thailand, South Korea and India have re-opened its borders with selective countries. With a 13% APAC market share (Fig 14) as of FY20 (larger than Mastercard’s 7%), gradual re-opening of the economy for business/tourism shows promise as a catalyst for Visa.

Further promise lies on other countries such as Japan, Hong Kong, China, Malaysia, Vietnam, Philippines as they currently remain closed to most international travellers. Vaccinations rates (Fig 15) have been increasing — most countries mentioned above have >50% vaccination rates. Additionally, Q4 earnings review mentioned renewal Visa’s top 20 issuers in APAC and investment focus into digital solutions to ride the digital wave in Southeast Asia (Visa Paywave, tokenisation, QR Codes, etc). Thus, re-opening of borders ais opined to be imminent and the recovery of travel and tourism will be assuring for Visa.

(2) High inflation rates via demand-pull/supply-push inflation

Due to COVID-19, there has been a surge in supply chain bottlenecks, resulting in supply-push inflation towards goods and services as export prices have increased by about 10 points on the index globally, On the demand side, volatile labour market conditions and global expansionary monetary policies have led to a growth in inflation rates. For example, USA’s inflation rate increased from 1.2% in Nov 20 to 5.4% in Sep 21 (Fig 16). Continued inflation growth is ironically a good indicator for Visa given the nature of its business model — Visa takes a percentage cut off the value of the transaction. As inflation is priced into the various goods and services, Visa’s revenue will scale along with inflation and top-line growth will increase by a healthy amount.

(3) Hike in swipe fees and slash in interchange fees come Apr 2022

Upon gradual recovery of the world economy, Visa/Mastercard will eventually enact a merchant fee hike come April 2022 (contingent on future circumstances). The blended increment of 4.7% in take rate (Visa will collect US$1.99 from US$1.90 per US$100 transaction) will inevitably increase Visa’s top line revenue by a sizeable amount, as the hike in fees projects an increment of US$117 billion in costs for businesses globally (these costs will be revenue for payment network providers).

Further, Visa is adopting a more aggressive strategy for card adoption in specific sectors (real estate, healthcare, education, rent, parking, vending machines) as it seeks to reduce its interchange fee (these are payments made to card-issuing bank) from $1.15 to $0.77 for a US$50 transaction. Management has opined that balancing out swipe fee increments with a slash in interchange fees can drive top-line growth sustainably — swipe fees increase to take advantage of the high-inflation environment and recovery of tourism, and interchange fees decrease to drive user adoption growth (from both merchants, banks, and consumers) in market segments where non-cash payments are not widely used.

However, this thesis has a potential to fall flat as other stakeholders have responded negatively towards the hike in take rate. Just recently, Amazon released a statement to introduce a 0.5% surcharge fee for Visa credit card transaction in Singapore and Australia from 15 Sep 2021 and 1 Nov 2021 respectively. Such retaliation will negatively affect Visa’s revenue. Upon further analysis, is to be believed that these propositions may not adversely affect Visa to a large extent since (1) Singapore is one of the smallest market for Amazon (Amazon is implementing this surcharge fee in Singapore only), (2) only purchases of goods and consumer electronics are affected (groceries, in-app purchases, subscription schemes, etc are not affected), and (3) it has been 2 months and there has been no subsequent announcement from Amazon to introduce this surcharge fees onto other markets.

4. Financial Analysis

Historical revenue grew at a 7.6% CAGR to US$32B in FY21 and projected revenue will grow at a 9.2% CAGR to US$52B in FY27 (Fig 17). All revenue streams are projected separately and regionally. Service revenues are determined by the amount of payment volume generated across key regions for Visa and multiplied by a blended take rate. Transaction revenues are determined by the number of transactions generated across key regions for Visa and multiplied by a blended take rate. Cross border revenues are determined by a percentage off payment volume. Payment volume, number of transactions, and cross border revenues/others are then grown at a specific rate catered specifically to each region to project Visa’s future revenue. On base case, it is estimated that USA, APAC, and Europe will experience a relatively higher growth in revenue as compared to other regions based on global economic outlook (re-opening of economy to tourism, adoption of e-commerce/digital payments, etc), with APAC being the most sensitive key driver to overall revenue.

Visa’s margins have been stable over the past FYs, with a slight dip in margins (Fig 18) attributable to increments in client incentives as part of the company’s long term strategic growth. Client incentives will be likely to remain as 26–27% of total revenue as compared to the average of 24–25%, since management intends to be slightly more aggressive in onboarding/renewing partnerships and deals with the company’s stakeholders — this will allow Visa to position itself well post COVID-19 tourism recovery and during the e-commerce boom in APAC.

Visa maintains its overall superiority in margins when compared to its peers, along with strong ROA (13.4%) and ROE (30.0%). Despite strong performances when compared to its peers, Mastercard presents a stellar ROE at 102.5% (Fig 19). However, deeper analysis shows us that Mastercard is undertaking huge leverage with his >2.0 Debt/Equity ratio when compared to Visa’s 1.2 Debt/Equity ratio. A lower leverage ratio is desired during this global economic recovery phase as the factors for recovery seem uncertain at this point of time. Thus, a prudent debt/equity ratio is desired should future financial quarters turn unfavourable. Further, an underleveraged capital structure can readily support a post-COVID era expansion into different target markets and market segments.

Overall, Visa is posited to maintain as the market leader in the payment network landscape, achieving up to US$20T in payment volume and 431B transactions by FY27.

5. Valuation

A buy recommendation is reiterated with a 12-month price target of XX, presenting a 19.1% upside potential on the closing price of US$213 on 10th Nov 2021. In order to determine the value of the company, a DCF methodology is applied with the use of (1) EV/EBITDA multiple and (2) terminal growth rate. To confirm the robustness of the DCF, a sensitivity analysis will be applied. The overall analysis is also supplemented with relative valuation.

DCF Valuation

The DCF valuation employs the Free Cash Flow to the Firm (FCFF) methodology to arrive at the intrinsic value of the company. This model fits Visa’s profile, allowing to account for future growth prospects and the generation of cash flow regardless of the capital structure. Visa’s historical numbers are consolidated from FY18 to FY21 and projections are conducted from FY22 to FY27.

Weighted Average Cost of Capital (WACC)

WACC (Fig 20) is estimated at 7.60% for Visa. Cost of debt is calculated by taking the blended average on the corporate debt taken by Visa and adding the 10-year risk free rate. The cost of equity is calculated with the CAPM formulate, reflecting USA’s equity risk premium, risk-free rate, and Visa’s historical 5 year Beta.

EV/EBITDA and Terminal Growth

EV/EBITDA multiple method is derived by taking public comparables across payment network providers, end-to-end digital payment providers, and open-loop/closed-loop digital wallet providers. For the terminal growth rate, Visa is expected to stabalise at around 3% come FY30 onwards, pegged to the long run growth rate of the top companies in mature industry segments.

Sensitivity Analysis

The DCF model’s robustness to changes was analyzed with respect to key inputs — WACC, terminal growth rate, and EV/EBITDA multiple. It is to note that a decline in APAC, USA, and Europe growth rates in payment volume and transactions will influence the recommendation of Visa.

Relative Valuation

Public comparables has been identified and analysed, where Visa is compared across payment network providers, end-to-end digital payment providers, and open-loop/closed-loop digital wallet providers. Visa is trading closely most peers that are largely related to Visa’s line of work with an exception of Mastercard being valued at a slightly higher multiple. A plausible reason could be due to Mastercard’s first mover advantage into B2B and BNPL transactions, something Visa is still expanding on. However, the stagnation of Mastercard’s growth and larger market share of Visa should reprice Visa’s share price (Fig 21).

6. Investment Risks

The top three investments risks (Fig 22) for Visa include (1) regulatory risks, (2) rapidly changing business environment, and (3) business disruptions. Although business disruptions via decentralized finance pose to harm profitability and reduce investment return, Visa’s recommendation for purchase is to take advantage of the mispriced share price over Q4 FY21 earnings and ride the tourism recovery and inflation wave for the next 12 months.

(1) Political risk: Regulation

Visa has been facing recent litigation cases over predatory pricing on its swipe fees, thus translating into unhappiness amongst stakeholders on Visa’s network. The inability to resolve these litigation cases can lead to loss of market share to competitors such as Mastercard and suppressed revenue growth as the company is unable to raise its swipe fees intended for April 2022. Next, the Europe Union has continuously mandated for an in-house intra-Europe payment processing network (in order to reduce its dependence on external intermediaries), thus reducing Visa’s presence in Europe should such a network be built. Lastly, subsequent expansion strategies into Asia such as China, India, and Russia can pose a significant barrier to entry as (1) Russia prevents Visa from processing domestic transactions, (2) UnionPay in China is the sole processor of domestic transactions and Visa’s approval to operate in China could take several working years, and (3) India’s growing nationalistic priorities could lead to cost implications on Visa.

Visa has recognized the inability to target the Asian countries with high barrier to entry, thus it looks to solidify its positioning in other countries so as to remain steadfast should players like UnionPay look to expand out of China. Further, most litigation cases have been resolved peacefully (often only resulting in a fine), thus Visa should still remain as a leading payment network provider.

(2) Market risk: Rapidly changing business environment

User uptake on mobile wallets and payments can lead to a different set of consumer demands. Further, Visa can be eliminated out of this new eco-system as future competitors look to entrench money without their own payment network and therefore cut intermediaries out of the picture.

Visa is currently mitigating this risk by its Visa Developer API protocols so that future systems surrounding mobile payments etc can be build on Visa and there are able to capture a small share of this new eco-system.

(3) Operational risk: Business disruption

A huge disruption beyond just a different preference for a method of payment in risk (2) will be the adoption of decentralised finance. Crypto projects built on different chains such as Ethereum, Solana, Terra (hosted by Luna) aim to cut off intermediaries where transaction of payments are supported by these crypto projects. Although user uptake currently is at its nascent stages, advancements in these projects and eventual user uptake cannot be ignored as most value creation methods look to act as a new form of intermediaries — thus Visa could be entirely replaced by cryptocurrencies.

7. Personal Take

Stocks covering the payments eco-system have taken a huge beating and it is rather justifiable given how most stocks have priced in FY21 recovery on transactions and payment volume. However, Visa has been mispriced by over 20% from its ATH (and recommended price target). An entry into Visa is recommended as I believe that the market has mispriced Visa over conservative management projections over FY22 and a slight rotation from financial services to technology and semiconductors (of what used to be a rotation out of semiconductors roughly 9–12months ago). Should recovery of global tourism and inflation remain as projected, Visa still stands to gain relatively huge upside in the next 12 months. However, one cannot ignore disruptive forces in the market such as mobile payments and cryptocurrencies, thus it is recommended to deploy into both Visa and either a mobile wallet provider (Paypal/Square/etc) or an upcoming crypto project with good user uptake (Solana/Terra/etc).

Disclaimer

The information set forth herein has been obtained or derived from sources generally available to the public and believed by the author(s) to be reliable, but the author(s) does not make any representation or warranty, express or implied, as to its accuracy or completeness. The information is not intended to be used as the basis of any investment decision by a person or entity. This information does not constitute investment advice, nor is it an offer or a solicitation of an offer to buy or sell any security.