- MasterCard is in a unique position to disrupt the payments industry as more and more financial transactions go cashless
- Over the years, the business has continued to show steady growth while displaying great financials, strong economic moats and opportunities ahead
- That is not to say that investing in the company doesn’t have its own set of risks
- With electronic transactions becoming a part of our everyday lives, MasterCard has the capacity to charge up our portfolio for years to come
It’s no surprise that more than ever, people are paying with plastic – but the numbers aren’t as high as you’d think. Cash and checks still count for a whopping 85% around the world. That makes for an enormous growth opportunity for MasterCard (NYSE: MA), operator of the second-largest credit card payment network (only behind Visa).
MasterCard controls a vast payment network that is in the business of connecting consumers like you and me to merchants and financial institutions to make the exchange of money seamless. Electronic transactions, in a progressively cashless society, are more secure, convenient and efficient for both consumers and merchants alike.
As a brand that consumers usually overlook but use so often, I think that the business has a bright future ahead of it.
2. “Priceless” Financials
The picture above is one that I took when I first joined Value Investing Programme (VIP) organised by Value Investing Academy (VIA) back in April 2012. After we were tasked to conduct research on 2 companies, I reached into my wallet, pulled out a MasterCard and convinced my group that this company is worth taking a closer look. At that point, it does not yet have financials that stretch beyond 2011. The last time we looked up the company’s financial statements, it was solid as a rock. Let’s take a look at how it has performed over the last few years.
[Source: MasterCard Investor Relations]
Since 2010, MasterCard has been able to grow its revenue at a compounded annually growth rate of 12% while keeping its operating margins at 50% or higher. Couple this with a very stringent process of stock buyback programmes, shareholders have been rewarded with a growing earnings per share at a compounded annually growth rate of almost 20%.
Needless to say, the stock price has outperformed the general market and its largest competitor.
Despite having strong currency headwinds stemming from emerging markets and the strong dollar, the business has grew its top and bottom lines in a very consistent way. By looking at the company’s operating margin, we can know that it has been disciplined in keeping cost lower while running the business. Lastly, as investors, we are concerned about the net earnings of a company. For MasterCard, it has been increasing steadily and I love to see that.
The company’s Return on Equity and Return on Asset are also growing at the healthy clip with ROE above 60% and ROA above 20%.
3. A Network Effect That Is Worth Billions
MasterCard’s primary source of revenue comes from the fees charged to issuing banks on the spending volume on cards and transaction processing. One crucial metric to monitor is the company’s gross dollar volume as it measures the spending volume across all of its cards.
Last year, the company generated more than $4.5 trillion (yes, trillion) in gross dollar volume with more than 1.56 billion card around the world. Yet the vast majority of purchases around the globe are still done with cash. This provides ample opportunity for MasterCard to continue growing its merchant base, and the more merchants accept MasterCard, the more customers will want to carry a MasterCard credit or debit card – a classic example of a powerful network effect in play.
4. Risk Involved
While the business has many sustainable advantages, investing in it has some risks as well. Here are a few to consider:
- Litigation Risk
While it does not affect the business activity of a company, there have been cases whereby a litigation caused a business to file for bankruptcy. In September 2016, MasterCard is being sued for a whopping £14 billion in one of the largest legal claim in British history. The claim involves around exorbitant fees imposed by MasterCard on businesses which ultimately raises prices for British consumers. MasterCard has a long history of lawsuits with the European commission regarding the amount of fees that it charges. While it has denied any wrongdoings, investors should evaluate whether MasterCard is able to fork out that much cash if it loses the case. The company currently has $5.2 billion of cash on its balance sheet and generates a free cash flow of more than $4.1 billion.
- Threat from New Entrants
The payments industry has been evolving very rapidly over the past decade and it has turned into a hotbed for disruption. While MasterCard’s network effect should give it a sustainable advantage over new entrants, we need to consider how it will work with or compete against companies like Apple and Google as they enter the payments industry. It certainly will not be easy to take away market share from the duopoly of MasterCard and Visa but investors do need to keep a lookout on how its story will play out given the intense competition.
After the latest quarterly announcements, investors celebrated MasterCard’s progress by sending the stock up to its all-time highs. Should we bother to invest in a company that has reached its peak price?
Of course we should. While it is a contrarian way of thinking, I would like you to consider what Warren Buffett said regarding how we should buy stocks:
“It is far better to buy a wonderful company at a reasonable price than to get a discount on trash.”
While MasterCard may not be selling on discount, I wouldn’t mind paying a fair, full price for this terrific company.
If you want to learn more about how to find cheap and good stocks to generate passive income for you, click on the picture below to join our Free Value Investing Masterclass.
Research Analyst, Mind Kinesis Value Investing Academy
Disclaimer: Please note that all information stated in this article is just for education purpose only and should not be used as any form of recommendation or advice.