BUY HOLD SELL – Afterpay (ASX: APT)Afterpay (ASX: APT) traded as low as 801c in March and now trades back towards 4000c, the question on everyone’s lips is, ‘is it too late for me to buy APT?’ Tied up in the answer is how macro headwinds and COVID-19 will influence the BNPL sector. Commentary surrounding the BNPL sector and the influence of the pandemic has created some intriguing headlines. Critics have been quick to point out that the real test for the business is still yet to come. As we’ve said before however, sitting on the sidelines, wagging your finger, and waiting for the bubble to pop doesn’t make you any money. An increase in hardship claims would be an obvious area for concern, although APT recently pointed out that while there was an increase in mid-March, levels have now moderated and are trending down. Furthermore, overall levels remain within manageable parameters. Pre-emptive adjustments to risk settings had a positive impact on performance in the second half of March and early April. The business skewed underlying sales contribution towards lower risk and higher performing, returning-customer cohorts. Tightening approval parameters and spending limits on high-risk products are other pro-active measures. Modelling of potential downside scenarios suggested that APT is adequately capitalised to support operations for multiple years based on its current cash flow, balance sheet and liquidity position. No need to raise capital another positive sign. The Q3 update pleased the market, March was the Group’s third-largest underlying sales month on record, behind the seasonally higher months of November and December. Underlying sales increased by 97% on Q3 FY19. APT remains on track to achieve its previously stated objective of 9.5m customers by 30 June. The major tailwind at the moment, however, is Tencent’s 5% interest in the company. While not a commercial partnership (at this stage) it has helped reaffirm APT’s global relevance and has left investors salivating at the prospect. Tencent is one of the biggest companies in the world and processes 1 billion transactions a day. Validation by a global heavyweight is not something that should be taken lightly, and the overwhelmingly positive market response has been evidence of that. China is renowned to be a difficult market to break into, but with Tencent by APT’s side, the scope of possibility and the addressable market is enhanced dramatically. This could be a game-changing future catalyst. Main Observations:
- ROE unimpressive at -4.7%. It is important to remember companies that aren’t yet in a mature stage of life often lose money in their early days. If we valued a company based negative ROE no one would every buy into a new(ish) business.
- At this stage in the business life cycle looking at EPS and PE metrics do not help us in valuing the company. What is encouraging, however, is that in futures years EPS growth in FY3 turns positive and outpaces revenue growth.
- Outstanding revenue growth at 90% in FY1 and 54% in FY2 is one of the major focus points for the stock. The story for APT is about expanding into other geographies and winning market share particularly in the US and UK. This is what attracts investors.
- Of the 12 brokers surveyed by Thomson Reuters half have a buy or strong buy recommendation.