Gaining Visibility on Paysafe (PSFE) Parts 2-4
Here are Parts 2 – 4 of an article addressing the main bear arguments on Paysafe. Part 1 covers Paysafe’s outlook on growth, and an expected miss for Q3ER. I recommend starting with the introduction in Part 1, and following the links if still interested.
Paysafe’s recent acquisitions, (two of which now completed) have spawned several misleading claims using faulty numbers to generate doubt about the company’s ability to manage debt.For example:
- One article tried to make a specific case that Paysafe can’t cover debt due to Q2’s 46% free cash flow conversion rate. The author's acrobatic bias ignores the obvious fact that the Q2 balance sheet clearly states a year-to-date free cash flow conversion rate of 70%, not 46%. The CFO noted that Q2’s conversion rate was temporarily affected by a one-time tax payment that is to be partially refunded. (Notably, Q1’s free cash flow conversion rate was 96%. At $108 million, it was a 28% YoY increase.)
- Another article cries liquidity problems, citing, “Paysafe Ltds earnings cannot cover its interest expense. If the situation continues, the company may have to issue more debt.” By relying on websites that blindly auto-calculate debt service ratios, the article doesn't account for recent debt restructuring and dramatically misrepresents forward expenses by ignoring:
- $84 million in one-time merger related expenses will not be repeated,
- over $40 million in one-time debt restructuring fees will not be repeated,
- newly reduced interest expenses resulting in roughly $70 million in annualized savings.
- A third article mistakenly claims Paysafe, “will add another $1 billion in net debt to close the Latin America deals.” In truth, the two deals mentioned total $550 million (SafetyPay at $441m and Pago Efectivo at $108.5m). A third European acquisition, viafintech, is reported to be valued at $42.5 million euros ($49 million USD). While the three deals total roughly $598 million, much of that can be covered between Paysafe’s $247.8 million in cash, their $270 million in undrawn revolving credit and their $360-$430 million in free cash flow. Total added debt will likely be less than half of what the article assumes. (In fairness, the author later admitted he read the transcript wrong.)
After paying down $1.2 billion in debt in Q1, Paysafe used its two notch credit rating upgrade from Moody’s and S&P to reorganize remaining debt, extend maturity and significantly lower average interest rates, reducing interest expenses by $70 million. The result, inclusive of new debt from acquisitions: credit upgrades were reaffirmed along with a $305 million revolving credit facility and the company will save around $43 million in annualized interest expense.This means forward debt-related costs are on track to drop by more than half, from an estimated $165 million in 2021 to less than $80 million in 2022. Combined with $84 million in other non-recurring merger-related expenses, that’s over $160 million in cost reductions going forward.Strong free cash flow and over $160 million in reduced costs can go a long way to quickly paying down debt. Add in the expected acquisition growth synergies and the company’s quoted path to a 35% EBITDA margin, and the picture looks even better. Management noted, “the deal synergies and our growth profile will allow us to de-lever quickly and meaningfully make progress in 2022 towards our target of 3.5 times adjusted EBITDA.” The very realistic potential of 17-18% revenue growth could attain that target ratio in short order.All this points to sustainable deleveraging, paving the way for more growth through M&A. (It also doesn’t hurt that the company stands to take in more than half a billion cash from outstanding warrants, which will directly benefit enterprise value and inorganic growth potential.)Carrying large debt is extremely common in the Fintech sector and Paysafe is by no means an outlier here. (Square, Repay, Fiserv, Shift4, Affirm, Bill and Paysign all have worse debt/EBITDA ratios and most of them still have negative earnings). In itself, debt leverage is not a bad thing, particularly if it’s manageable and generates more growth. That definitely appears to be the case here.
When considering how Paysafe is setting itself up for future profit potential, here are some points worth underscoring:
- Without $92 million in non-recurring costs, Q1 would have been very profitable, beating analysts consensus by as much +0.10 EPS.
- Despite Q2’s $40 million in non-repeating costs, Paysafe still managed to beat on earnings with its first profitable quarter as a newly public company.
- Roughly $167 million in H1 expenses will not repeat going forward:
- $84m one-time share based compensation,
- $40m one-time accelerated capitalized debt fees,
- $43m estimated reduction in annual interest expenses
- Those reductions alone represent a potential +0.22 EPS, which exceeds analysts projections. (Some platforms have reported analysts estimate 3-400% profit growth for 2022 with an average of 75% annual profit growth thereafter. Fortunately, on Q3 guidance, analysts have been revising their forward estimates downwards which ultimately better positions PSFE to beat consensus down the road. This contrasts with analysts’ initial EPS estimates which did not appear to fully account for the one-time merger and debt restructuring costs.)
- Paysafe’s margins are also expected to expand as they work through deliberate measures to de-risk future growth. For example, their integrated processing take rate has been compressed by strategic Direct Marketing exits in anticipation of new compliance rules. This is expected to abate by end of year. Management notes: “we do expect EBITDA margins to expand in the back-half of the year and to continue that like a steady drumbeat going into next year as well” reflecting “continued strength in integrated processing, including the on-boarding of several new e-commerce clients in late Q3 and early Q4, stronger growth in digital wallet as well as sequential improvement in direct marketing.”
- Between Q3 and FY guidance, there is an implied guidance for a Q4 EBITDA of $153 million. That represents a YoY EBITDA growth of 60.5%, which may offer a signal as to how moving beyond legacy de-risking headwinds can start to improve the margin picture going forward.
- Their fastest growing segment, eCash, has a high take rate of 7.2%. For H1/21, they reported 49.4% YoY revenue growth and 81.6% YoY EBITDA growth which would reasonably point to a future business mix with higher overall margins. Further growth in this segment stands to benefit from their new LATAM expansion, their new Glory Ltd partnership, as well as their recently launched US campaign to engage the US/Mexico remittance market (worth $40 billion annually). Also, their Xbox deal expands eCash in 22 countries and their recent deals with ZEN, REPAY, and IntelliPay further expands their eCash network across the US and in 25 European countries.
- With a gross margin of 61-63%, upon execution of their two year strategy to “unlock over $100m organic adj. EBITDA” (page 28), management cites a potential “pro forma upside that could drive EBITDA CAGR to 21%.”
- One aspect of this margin expansion strategy is in the company’s ongoing integration of their various business segments into a single code on a cloud-based gateway, the Unity Platform. This streamlining will enable them to reduce costs and scale up quickly in new markets and in emerging verticals like travel, trading in the wallet, digital goods, online gaming, and banking as a service. Among the benefits of this new synthesis:
- it increases operating margins through cost-saving efficiencies and eliminating redundancies (automating underwriting, 2/3 reduction in data centers)
- it enables them to forward unsolicited cost savings to partners, merchants and users, helping them retain and gain new marketshare,
- it eliminates on-boarding each service separately by making their entire suite automatically available through a single gateway, which builds in substantial cross-selling opportunities
The number of institutional funds owning PSFE has grown from 187 to 297 over the last quarter. At this point, nearly all the major funds hold shares at a cost basis much higher than the current price. These include Wells Fargo, Blackrock, Citigroup, State Street, JP Morgan, Francisco Partners, Naya Capital and noted fund managers like Dan Loeb (Third Point), David Tepper (Appaloosa), Aaron Cohen (Survetta), Seth Rosen (Nitorum) and Leon Cooperman, (who personally owns over a million shares). Notably, most of these investors bought shares before Paysafe’s recent history of value creation. Cross-referencing the most up to date record with older filings, some estimate the true available float is between 70-80 million shares. For what has historically been a low beta stock, theoretically, a reduced free float influences the proportionate affect of true short interest and could cause the stock price to move faster.
Links to the rest of the article can be found in Part 1 once they are complete. Let me know if you’d prefer a single post of the entire article.
Note: some article links are missing because they are banned by this sub
Submitted November 02, 2021 at 02:38PM by greensymbiote
via reddit https://ift.tt/3EJ6BXz