Objective Analysis - FY20 Results Presentation

Let's discuss the good, the bad and the ugly of today's release. I won't be discussing numbers that are self-explanatory like 112% increase in underlying sales etc and instead focus on the less obvious. Also want to emphasize that this isn't meant to be an up or down-ramp, just an objective analysis.

The Good

Gross Losses
Afterpay's Gross Losses have improved from 1.1% to 0.9% which is an important metric since this is one of the few ways Afterpay can increase it's Net Transaction Margins (NTM) at this time (this may change once APT finds other revenue streams such as monetizing it's lead referrals through it's app, as well as it's big data).

After being prompted by an analyst Anthony highlighted the two reasons for this decline. The first is the company's ability to retain customers, and as repeat-users become a greater share of underlying transactions the losses decline. This is consistent with the view that new markets tend to start off with higher loss rates which decline as time passes. The second point Anthony made was that as the company makes more and more transactions and get more behavioural data from users, the credit risk models become more refined (in quantitative credit risk modelling terms, what he's referring to is that the credit risk models become more predictive of possible credit quality deterioration of a customer).   

Further Investing for growth
APT is massively cashed up after the recent capital raising and they are heavily focused on world domination. Nick Molnar noted that the metrics they are seeing in the US and UK are outperforming that of Australia and it's given them confidence to continue perusing new growth opportunities.

Obviously some of them are priced in but they have now gone live in Canada, and have taken steps to enter Spain, Italy, France and Portugal with further European markets earmarked for the future. As part of the Q&A an analyst queried if there is a plan to push into more northern European countries to which Anthony mentioned Germany as a possibility in the medium term.

Lastly, APT has announced the acquisition of a Singaporean based BNPL provider (EmpatKali) that is operating in Indonesia with a plan to leverage Tencent's network and relationships to expand into new regions in Asia. This came much sooner than expected for me and was a pleasant surprise. In the Q&A Anthony noted that the acquisition cost of acquiring EmpatKali is immaterial in the scheme of things and that the real value lies in the skills in their team which complements that of existing teams and will allow them to explore further opportunities. Why this push into SEA was made leads well into the next point:

Merchants requesting support in new markets
In the Q&A Anthony mentioned that it's retailers that are driving this decision, noting that a couple of their larger retailer partners have told them consistently over time that they'd love Afterpay to support them in more regions with Asian markets having been singled out as being very important to them.  

This is interesting for two reasons. One, you have merchants that are getting so much benefit from Afterpay that they are requesting more and more from them. Secondly, the benefit is obviously far greater than the fees that they are paying which is extremely positive given the large % of fees that Afterpay makes off merchants:

So if customers are loving the service, and paying very little to use it, and merchants are loving the service even though they are paying for it then who loses? Certainly not the merchants, as per the next point:

Merchant benefits
A July 2020 survey Afterpay has undertaken with retailers shows the following incredible benefits merchants are receiving by simply offering Afterpay as a payment option. Pay 4% fees and receive:

This isn't surprising when you see how Afterpay consumers spending behavior changes when not offered Afterpay at check-out:

Both these two surveys give incredible ammunition for Afterpay to further pursue relationships with big cornerstone merchants across the world. If you don't agree then you may not truly grasp the meaning of these survey results.

Afterpay's US customer profile
Slide 40 demonstrated that the cohort using Afterpay in the US is largely represented by middle-to-high income earners. This has been known to vigilant investors for some time, but worth pointing out since posters often complain about this being a tool for the poor. Anthony noted that their own credit risk model delivers better outcomes than traditional credit checks and doesn't negatively impact the customers credit scores.

Key drivers of growth in BNPL
Obviously this is well known but it's worth noting that Anthony highlighted the fact that Afterpay has been a net beneficiary from COVID-19 (something I've been voicing for the last 5 months). The growth has accelerated through two factors, a shift to online shopping and the shift away from credit:

There are many more positives in the announcements including loyalty programs, changes to the app etc but I really can't cover them all.

The Neutral/Bad

Profits delayed
To me this isn't a bad point, more a neutral point and is simply due to a strategic decision to use the current tailwinds that BNPL is experiencing to further expand the business. This will increase expansion costs, including employment costs and market costs and profit is will in my opinion be delayed for some time. In fact I'd imagine they'll be expanding more and more into northern Europe and SEA and who knows where else. If you're after a profit (mostly FLX holders keep banging on about profitability) then this will cause some concern.

ANZ Operating leverage
Another neutral point for me, Analysts were somewhat critical on the operating leverage for Afterpay in the ANZ region, noting that they expected higher profitability as the market is maturing. Management highlighted that a lot of the costs of international expansions that would normally sit in other regions is being absorbed by the ANZ division, in particular marketing and technology related costs. It was also noted that costs as a % of sales is expected to decline as markets mature further, in particular from operating costs such as marketing expenses.

It's worth noting here that employment expenses and operating expenses have increased (obviously due to geographical expansions) but have decreased as a % of underlying sales showing the scalability of the business. As transaction volumes increase in less mature markets this will become more evident, since you don't need to grow your quantitative credit risk modelling teams, marketing teams, finance and treasury teams, executive teams and board (those are just some examples) when you increase customers in each location.

Honestly there wasn't anything bad in this report that I can point to and say I'm disappointed. I think the report is to some extend in line with expectations and the lack of movement in the share price (excluding early fluctuations) gives me confidence that APT will build a base at these price levels and will start climbing again as APT makes more price sensitive announcements. There is plenty to look forward to with holiday season approaching and Anthony revealing that "a number of globally recognized brands are expected to launch ahead of the holiday season".

As always please keep this thread clean, sticking to objective analysis and don't get baited by the "no-profit" potatoes that lurk around on these threads. Having said that, both positive and negative feedback is welcome.  Let me know if you have any specific questions.

Cheers,
Stef