Can Paytm make money with juicy fintech margins?

One97 Communications (Paytm’s parent company) raised a huge ₹18,300 crore in the IPO in November 2021 at a price of ₹NOK 2,150 per share. The share listed at an opening price of ₹NOK 1,950 and fell to ₹1,560 at the end of the first trading session. Since then, it has been mostly downhill for the stock, which reached a low of ₹438 in November 2022, one year after listing.

The IPO was clearly overpriced. But there are signs that the company’s business is on the upswing. Management’s guidance was that operating results would reach breakeven by Q2 2023-24 – that is, September 2023. One97 has actually exceeded this target by delivering an operating result in Q3 2022-23 – three quarters ahead of schedule. Moreover, all the most important business areas are performing quite well.

An operating profit – known in accounting jargon as earnings before interest, tax, depreciation and amortization (EBITDA) – is calculated by subtracting operating costs from revenues. It indicates that the core business is making a profit, even though it may be earning enough to cover financing costs (interest) or replace equipment as it depreciates. Paytm has achieved EBITDA profitability if we ignore the very significant employee stock options (ESOPs) it awards.

Revenues in the third quarter of FY23 were up 40% year-on-year (YoY) at ₹NOK 2,140 million. The gross merchandise value (GMV) that was handled was approx ₹35,000 crore, up 40% YoY. EBITDA before deduction for ESOPs was positive ₹NOK 31 million. Net loss after deduction of ESOPs, interest, depreciation, etc, was ₹392 crore, much lower than a loss of ₹778 crore in the previous year.

So, what does Paytm do and how does it make money?

It offers payment services to consumers and merchants and charges fees from both. It leverages data to cross-sell financial services. It offers point-of-sale (PoS) devices to merchants and credit cards to consumers, and other services such as personal loans. It also offers software and cloud services to other businesses.

The fintech space is extremely crowded and hyper-competitive, with dozens of players. The margins are small. Paytm and others like it need network effects – the bigger the network, the more useful it is. They also need to understand the data their customers and sellers throw up to determine what can best be sold or offered.

Paytm has a network of over 31 million merchants using its PoS devices. The number of active monthly users was 85 million by December 2022, up from 79.7 million in September and 64 million in December 2021. The company pushes out around one million PoS devices every quarter.

Paytm earns small convenience fees and the margin on its payments business is about seven basis points – just 0.07%. Furthermore, the management believes that this will stabilize at around five basis points.

On average it does around ₹NOK 100 a month on one of its PoS machines. In contrast, a conventional credit card provider earns upwards of 1% per transaction. But this is why a merchant is comfortable receiving ₹10 payment at a Paytm PoS device while discouraging the use of credit cards for transactions under ₹400.

Paytm also gives out loans. It paid off close ₹10,000 crore in loans in Q3 – up around 28% from Q2, when it gave up ₹NOK 7,300 million in loans. Most loans are small and short-term. The typical borrower is someone with a low income who borrows a small sum for a couple of days at the end of the month.

Paytm distributed 1.5 lakh credit cards in Q3 and has less than five lakh credit card users in total. It saw massive growth in the trade segment in Q3, which may have been partly seasonal. People travel more during the October-December period, and the festive and wedding seasons lead to more transactions.

A long time ago, a management guru called CK Prahalad wrote an influential book on ‘The Fortune At The Bottom Of The Pyramid’ in which he theorized that companies could become successful by targeting low-income populations and serving their needs.

This is a “white space” – a market so low-margin and small-ticket that it was ignored by traditional financial service providers. But it is very high volume. Paytm and its competitors have entered that space, driving financial inclusion with technology and surviving on razor-thin margins.

This is a very new business. It is likely that the share price will remain volatile. After its stellar Q3 results, Paytm’s shares surged 35% in four straight sessions before falling 9% in a single session after AliBaba sold its stake. Different analysts offer valuations ranging from ₹700 more ₹NOK 1,150 per share. This wide selection indicates that no one is sure what a fintech company is worth.