No doubt about it, the payments industry is changing fast. Consumers are buying more things online, while many brick-and-mortar retailers struggle to find ways to bring foot traffic through their doors. During the daily commute, a customer can pay for a morning cup of coffee from an app on a smartphone and, later, just walk into the coffeehouse, pick it up, and walk out. Even our credit cards have fundamentally changed: They are now inserted, not swiped, so payment terminals can read unique encrypted codes generated by embedded chips.
With so many changes happening simultaneously, it is all too easy to overlook possible investing opportunities in this sector. While some are more obvious than others, it’s important to not leave any stone unturned. With that sentiment in mind, let’s take a closer look at three under-the-radar stocks in the payments industry to determine if they might make for market-beating investments.
Total System’s total-ly diversified payment business model
Total System Services, Inc. (NYSE:TSS) is divided into four major business segments: North America services, international services, merchant services, and NetSpend.
The North America and international segments offer, for card-issuing financial institutions, third-party services ranging from processing credit card applications to embossing cards. The merchant services segment primarily provides payment-processing and support services to merchants: facilitating transactions of credit, debit, and prepaid cards; selling and maintaining point-of-sale payment equipment; and providing billing services for merchants. Finally, NetSpend is a leading provider of prepaid debit cards, with more than 70,000 distribution points and 130,000 reload points.
While Total System’s stock price has stalled since the beginning of 2016, down from its late 2015 highs, the stock is still up almost 80% in the past three years. In its most recently reported quarter, net revenue rose to $785.7 million, almost a 22% increase, and adjusted earnings per share from continuing operations rose to $0.71, a 24.5% increase. It should be noted, however, that almost all this growth could be attributed to the acquisition of TransFirst, a transaction that doubled the company’s merchant services segment overnight.
Based on GAAP (generally accepted accounting principles) earnings, the company trades at a fairly high price-to-earnings ratio of 31, though the adjusted-earnings P/E is a much more reasonable 19. The company’s adjusted operating margin of 28.17% is certainly healthy.
First Data stuck in first gear?
First Data Corp (NYSE:FDC) consists of three business segments: global business solutions, global financial solutions, and network ad security systems. The company’s global business division is by far its largest, accounting for 55% of the company’s total revenue. This segment offers commerce solutions like mobile payment capabilities and Clover, the cloud-based point-of-sale operating system. Unfortunately, revenue was down in this segment 1% year over year:
Other segments aren’t exactly coming to the rescue. While the global financial segment increased revenue 5% year over year, network and security saw a revenue decline of 2%. First Data’s stock is certainly more attractively valued than most of its peers at an adjusted P/E of just 12.3.
Global Payments: A true global leader after its Heartland acquisition
Like First Data, Global Payments Inc. (NYSE:GPN) focuses almost exclusively on processing transactions for merchants, offering options for online, mobile, and point-of-sale purchases. In 2014, Global Payments rebranded integrated solutions it had obtained in a series of acquisitions as OpenEdge, which offers custom software solutions and supports encryption, tokenization, and EMV payments. Of course, in today’s competitive payment environment, all of that is pretty much standard fare.
Last year, Global Payments acquired Heartland Payment Systems, Inc. for $4.3 billion. For a company with a current market cap of $11.6 billion, this was a huge deal. At the time, Global Payments told investors the acquisition would bring many synergies and would accelerate “revenue growth, operating margin expansion and cash earnings-per-share growth.” Since the acquisition, the company has done nothing but deliver on these results:
In the company’s most recent earnings press release, CEO Jeff Sloan announced double-digit organic growth and raised guidance for cost savings from the Heartland deal:
The strong momentum from our first quarter accelerated in the second quarter of fiscal 2017. We delivered double digit organic growth across our key markets, including in our U.S. direct business and across most of Europe and Asia Pacific … We achieved these results while also making significant progress integrating Heartland. We have raised our expectations for synergies from the merger, highlighting ongoing strength in execution.
And the winner is…
There are certain things to like about all of these companies as potential investments right now. First Data Corp. offers, by far, the most attractive valuation based on current prices, but its lack of revenue growth over the past year worries me. Total Systems might offer the most diversified business model because it counts both merchants and financial institutions as customers, but until we can see whether the company can continue its growth after it has lapped the quarters since its acquisition, I would remain cautious.
So if I had to pick just one of these stocks to buy for my portfolio right now, it would be Global Payments. In each of the last two quarters, management announced double-digit organic growth, and increased guidance for synergies with its Heartland merger. It now appears that management may have seriously underestimated or sandbagged the estimates of cost savings the acquisition would bring to the company. For 2017, the company is estimating $3.70 to $3.90 EPS, a 16% to 23% increase over 2016. That also gives the company a forward P/E range of just over 20 at the low point of the EPS guidance, which doesn’t seem unreasonable for this kind of growth. Given that more synergy and guidance surprises might be in store, Global Payments is where I would personally invest right now.