Global Payments Executing On Its Vision And Delivering Margin Leverage

It may sound uncomfortably similar to “it’s different this time”, but Global Payments (GPN) is a prime example of how good companies always seem to manage to find a way to do better than expected. In the case of Global Payments, it has taken the integrated payment and omni-channel concepts and run with them, combining/folding payment functionality into broader offerings of specialized software and services that not only make the customer relationships stickier but more profitable as well.

Global Payments sports high multiples and high expectations, and I wouldn’t ignore the competitive threats posed by existing head-to-head rivals (not to mention potential future threats from companies like Amazon (AMZN), Square (SQ), and PayPal (PYPL)), but I believe Global Payments’ integrated and omni-channel offerings, as well as its strong global position, make it a formidable player in the market. A high single-digit revenue growth rate from here can support a fair value in the $120s, but I would expect this stock to sell off pretty sharply if the earnings momentum were to falter.

Another Quarter, More Double-Digit Growth

Fintech/payment tech continues to see exceptional growth, and Global Payments is certainly a beneficiary of that trend. First quarter adjusted net revenue rose 17% as reported, with around 9% organic growth in North America on double-digit growth in the direct distribution business and a high single-digit decline in the lower-margin wholesale business. Growth was strong overseas as well, with high single-digit organic growth in Europe (with share gains in the U.K. and Spain) and mid-teens growth in Asia.

Margins continue to benefit from the company’s shift away from North American ISOs and a greater contribution from a tech-enabled business like its integrated service offerings and e-commerce/omni-channel. Adjusted operating income rose 23% in the quarter, supporting a roughly 140bp margin improvement, with a nearly two-point improvement in the North American business (which generates a little less than half of segment-level profits.

A lot of the company’s success in the first quarter came from repeating/applying a model that has been working well for a few years now. The company continues to do a good job of driving more integrated solution adoption with its core small-to-mid-sized (or SMB) business customer base, while overall transaction volume for card-based transactions continues to rise.

Using Technology To Change And Expand The Business

Prior to Global’s acquisition of Heartland, core merchant acquiring was already on its way toward becoming a more commoditized business, and companies like Square were already working on disruptive payment tech offerings. Instead of fighting a losing battle in the traditional acquiring/processing business, Global Payments sought to change the playing field by focusing more attention on value-added services like integrated payments and e-commerce/omni-channel, underpinned by its own software offerings and partnerships with other providers.

That plan has been working quite well, and it’s driving not only good revenue growth but better margins as well. Integrated payments bundle payment functions with specialized software and services developed and targeted at specific industries/verticals. In addition to facilitating mobile payments, loyalty programs, and the like, these software offerings include a lot of back-office capabilities like inventory management, ordering, and customer management. Although some companies will and do want to own that back-office software outright, it’s an attractive option for other businesses that don’t want to make the upfront investments.

Integrated payments now make up about a quarter of Global Payments’ business, and most of its target verticals remain largely unpenetrated – the company has had the most success with the dental vertical (around 25% penetration), as well as specialty retail and restaurants, but outside of the dental business, the other verticals are 90% unpenetrated (or more). First Data (FDC), TSYS (TSS), WorldPay (WP), and Square aren’t just ceding this opportunity to Global Payments, and I expect competition to increase, but Global Payments was a first-mover, has invested in its own wholly-owned software resources, and has been leveraging a relationship with Vista to sign up additional partners.

A lot of this applies as well to e-commerce/omni-channel, a business that’s about half as large today as integrated payments. Global Payments bundles acquiring, processing, software, and gateway capabilities for SMB customers who want Global Payments’ help in facilitating e-commerce transactions. Although there’s more competition here (plenty of software/service companies built around helping smaller businesses get into e-commerce), Global Payments’ capabilities on the acquiring/payment side, not to mention its integrated payments offerings, should be an edge with at least some customers.

The Opportunity

Aside from a few times when the market freaked out about GPN’s near-term growth potential, the shares have generally had (and justified) a high valuation for quite some time. Considering recent performance, what’s going on in the industry, and GPN’s competitive position, the company should be able to keep growing at a high single-digit to low-double-digit rate with margin improvements driven by the ongoing shift toward higher-margin, more robust offerings (integrated payments, et al). Global Payments won’t offer the sort of growth that Square or PayPal should generate, but it should surpass other payment tech companies like First Data.

I’m looking for long-term revenue growth in the high single digits on an annualized basis, and I think adjusted free cash flow margins can reach the mid-to-high 20%s over time as this company becomes more like a technology company than a processing services company. Adjusted for a settlement, the long-term FCF growth rate works out to a low double-digit number.

The Bottom Line

Although Square’s share price performance has left everybody in the dust over the past year, and the entire payments/fintech sector has been pretty healthy, Global Payments doesn’t look too expensive on a DCF basis. Of course, models always carry the risk of “garbage in, garbage out”, and Global Payments’ valuation multiples are certainly not low, but I believe the company has established a fairly credible case that it can maintain above-average growth for the foreseeable future. With that, I think the shares can trade into the $120s.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.


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