Paytm buyback: The good, the bad, and the ugly

It’s unlikely this scenario would change, despite the fact that the company’s performance was impressive in the September quarter. The company said it aims to turn EBITDA break-even by September 2023.

So what exactly is the problem with Paytm and does it truly stand a chance of becoming a financial powerhouse as projected? Those bullish on the company are largely pinning their hopes on the lending business, which is growing rapidly.

Simply put, Paytm is an intermediary between financiers and customers availing merchant and personal loans. For every loan, the company takes a small cut. Thus, the more it grows the volume of the loans, the more it earns.

Paytm has a net cash pile (including cash equivalent and investable balance) of Rs 9,182 crore as of September 2022, including around Rs 5,600 crore left over from IPO proceeds of Rs 8,300 crore.

Also Read: Paytm Q2 loss widens to Rs 571.5 crore, operating revenue jumps 76%

As of October 2022, its distribution business disbursed loans at an annualised run rate of Rs 37,000 crore. The value of loans disbursed grew 387 percent year-on-year (YoY) to Rs 3,056 crore ($407 million), while the number of loans disbursed grew 161 percent YoY to 3.4 million loans in the month of October 2022.

The company also sells payment devices to merchants who pay a monthly subscription fee to Paytm. The company claimed it had 5.1 million such devices active across India. Paytm has started charging platform fees on a number of transactions, including mobile balance recharge.

Unfortunately, Paytm, but for its unparalleled merchant network, does not have anything that truly establishes its leadership in any segment. This is the singular difference between, say, other listed digital businesses like FSN E-Commerce Ventures, i.e., Nykaa, or for that matter Zomato or even PB Fintech. But can it build itself to be big and profitable in any segment?

Also Read: Paytm spikes 5% as traders lap up shares on buyback announcement

To answer that we have to first understand the opportunity in the payments business and how it operates. The best example in the world for payments is Alipay, which has grown enormously and profitably. There is a bit of history to this.

The big banks in China historically focussed on lending to large state-backed firms. When the retail boom happened in China, banks did not know how to tap that segment. Along came Alipay, put technology to good use, leveraged customer data, went big on the lending business, and made a killing.

Paytm, on the contrary, does not have an edge when it comes to retail customers compared to the banks, be it SBI or HDFC Bank. What does Paytm know about retail customers that a SBI does not? People are critical of banks for their NPAs (non-performing assets), but truth be told, all the bad loans of SBI are corporate loans. On the retail side, SBI, for example, has had an exemplary track record. In fact, its retail delinquency has been lower than that of even marquee lenders like HDFC Bank.

But there is a bigger concern. And that is the way in which this India stack is being developed. The India stack protocol goes way beyond just the payment network. Right now, only the payment network is democratised. Besides Master and Visa, we also have the indigenous Rupay card, which is now the biggest payment network in India (not Visa or Mastercard). Plus, we have an alternative ecosystem: the UPI (United Payments Interface), which has been created virtually free of cost.

The next part of the India stack is the information aggregator platform, where the idea is to pool all the data and make financial information democratic. This will lead to the subsequent step — democratisation of loans.

Also Read: Macquarie sees threats for Paytm from Jio Finance

This gives even more reason to believe that a new player like Paytm will struggle to scale profitably. There is only one scenario where one may make a somewhat bullish case for Paytm. If we assume that as UPI grows banks will demand a certain charge for providing the service, it could mean that a significant portion of Paytm’s business which earns nothing right now will start sprouting some cash. The other positive scenario would be if Paytm were to be bought out by a large player who wants to dominate the digital retail scene in India. But both these scenarios are like a pie in the sky right now.

So here is my take. There is definitely some momentum in the Paytm business now, the management is trying its best to make it work and move towards profitability. Analysts are generally turning bullish on the stock because a few quarters down the line you may start to see the company turn profitable. But the business model is weak at best, and at worst, broken. As of today, Paytm does not look like it could be a wealth creator even if you take a longish time frame.

Also Read: The good, bad and ugly of Nykaa’s bonus issue

Against this backdrop, what can the management really do? Many would argue that stock prices should not be of any concern to the management. Bang on, it should not be. But that is seldom the case, and part of that is because there is always pressure from large investors to get themselves a decent exit.

In the absence of any clear visibility of profitability, a company should preserve cash instead of distributing it. Another way to cut this is to say that shareholders are anyway not buying the narrative, so might as well give back a portion of the capital and try and compel yourself to run a tighter ship.

In that sense, a buyback is only a harmless effort to talk up the stock. Why would shareholders complain if the management wanted to give some money back to them?

The tricky part here is the buyback price. No question, market sentiment has changed phenomenally over the past year, but it would be difficult for a management to justify why they are buying back shares at a huge discount to the price they offered the stock at only a year ago. Paytm is down more than 70 percent from the public issue price, a world record in capital erosion.

The bigger worry is that the management will ally with brokers and do a pre-decided deal to offer an exit to select investors. Some managements are notorious for doing this, because in the murky world of private equity, an exit with assured returns is often agreed to when funds are originally committed. If that happens, it would be unfair. It should be something for the regulators to take cognisance of to ensure market integrity is maintained and any possible preferential treatment is done away with.

For small investors though, there is nothing to lose, as small qualities can be sold any time without making a huge loss.

At worst, the buyback is a back-door exit to shareholders, and at best, an honest admission of the management’s inability to justify holding on to the cash pile. As always, the reality may lie somewhere in between. Perhaps it is a desperate yet inexpensive attempt to talk up the share price with no business plan in mind.