PYPL: Apple Pay a Paper Tiger

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Howard Mason

hmason@ssrllc.com

March 27, 2016

PYPL: Apple Pay a Paper Tiger

We are integrating PayPal into Braintree where we become a processor for a lot of merchants and, in doing that, we can present PayPal as a form of payment … this is the fastest-growing part of our business … and it has an extremely promising future” PYPL CFO John Rainey

  • Payments is not broken; checkout is broken. Apple is narrowly attempting to address payments in select channels which is why eligible usage has declined 20% over the last year. PYPL is broadly looking to address checkout across all channels which is why we expect it to continue to gain share with mobile payments volumes (representing 25-35% of PYPL’s total) growing 45% annually versus global growth of below 40% (on an estimated 2015 base of $450bn of which PYPL has ~15% share).
  • The extension of Apple Pay to the Safari mobile browser will not meaningfully affect PYPL’s volume growth for three reasons which secure a likely role for PYPL and hence provide it with an opportunity to present PayPal as a form of payment:
  • First: There is no reduction in the merchant-need to work with PYPL for Android (accounting for ~30% of mobile traffic) and for fixed-internet (accounting for 60% of online traffic and, given high conversion rates, a disproportionate share of online commerce) where the absence of a fingerprint sensor impedes Apple Pay.
  • Second: Even on iOS devices, most merchants need to work with PYPL, through Braintree, or with Stripe to enable Apple Pay.
  • Third: For offline purchases, Apple Pay is simply a change in form-factor while PYPL looks to transform the purchase experience for the consumer and marketing effectiveness for the merchant through integrating payments with the earn-and-burn of coupons and through convenience services such as order-ahead and digital management of credits for returned items. As Dave Birch, Director of Consult Hyperion remarks[1] rather acerbically “taking a $600 phone and making it emulate a 50-cent piece of plastic is a very uninteresting business model.”
  • Apple Pay will almost surely not generate the 16% sales-lift claimed for merchants by PYPL given PYPL’s broader channel-reach; integration with tools in support of merchant-apps including payments-processing (Braintree), convenience and security services (Paydiant), and contextual commerce (Modest); and increasingly deep penetration into the financial lives of its customers through P2P (Venmo), remittance (Xoom), and financing (PayPal Credit).
  • PYPL’s support for merchant apps will become increasingly important as mobile commerce migrates from browser to app. While ~60% of 2015 mobile sales in the US were generated from the mobile web, app-based volumes are growing faster and we expect the difference to expand as retailers invest more aggressively in apps given their potential to engage consumers in a better experience than a web-site, even if mobile-optimized, because of the greater scope for personalization and, as beacon technology is deployed, of the opportunity to integrate the convenience of a digital shopping experience with the immediacy of an in-store experience.

Overview

Media reports that Apple plans to extend Apple Pay, which can currently be used in-store and in third-party apps, to in-browser for mobile Safari have raised investor concerns about the competitive threat to PayPal. These miss the point that long-run growth at PayPal will increasingly be driven by app-based purchases, whether online or offline, where PayPal has a commanding advantage with merchants because of its channel reach, active customer base, ability through Braintree to payments-enable merchant apps, and broader suite of technology to transform the checkout, rather than merely payments, process:

  1. Channel-Reach: Apple Pay will not be extended to fixed-internet or Android devices because of the absence of a fingerprint sensor (see our note of May 8th, 2015 titled Apple Pay for Brower: Not So Fast). This channel-limitation almost surely means that Apple Pay cannot provide merchants with the 16% lift in sales provided by PayPal so that even those merchants that enable Apple Pay will likely also work with PayPal and will be encouraged, through price-breaks and omni-channel data services for example, to install the PayPal button across all channels including those where Apple Pay is available. Android, in particular, cannot be ignored as it accounts for an increasing share of mobile web-traffic, currently 30%, and fixed internet remains important accounting for ~60% of e-commerce traffic (Chart 1).

Chart 1: Android Share of Web Traffic

Source: Monetate ecommerce quarterly 2015q3

  1. Active Customers: Once the PayPal buy-button is available it will likely be preferred by PayPal account holders particularly as PayPal becomes more integrated into their financial lives from the 2015 level of an average 27 transactions per account. To drive this engagement, PYPL is looking to redefine the checkout experience rather than merely the payment experience (as discussed in point (3) below) and is positioning beyond enabling commerce to managing and moving digital money through services such as P2P payments including remittances (via the July acquisition of Xoom), PayPal Credit, and contextual commerce (via the August acquisition of Modest). As CFO John Rainey comments of PayPal Credit, for example, “there is a higher level of engagement going forward because it’s not one transaction and you’re done”.
  1. Mobile Payments Technology: The future of mobile commerce lies with native apps (communicating directly with the operating system) rather than browser or web-apps (communicating via a browser). Currently, this is counterfactual given ~60% of 2015 mobile sales in the US were generated from the mobile web rather than apps (Chart 2) but app-based volumes are growing faster and we expect the difference to expand as retailers invest more aggressively in apps given their potential to engage consumers in a better experience than a web-site, even if mobile-optimized, because of the greater scope for personalization and, as beacon technology is deployed, of the opportunity to integrate the convenience of a digital shopping experience with the immediacy of an in-store experience.

Presently, there is wide variation among retailers with early app-adopters, such as TGT, seeing that their app accounts for 74% of customer time spent on m-commerce properties[2] while late-adopters have lower proportions including BBY (18%) and HD (31%). Along with Stripe, PayPal’s Braintree is a duopoly-provider of key technologies allowing merchants to payments-enable apps so that, for example, Braintree enables Apple Pay for many apps that support it. As CFO John Rainey explains, this creates an important marketing opportunity for PayPal: “we are integrating PayPal into Braintree where we become a processor for a lot of merchants and, in doing that, we can present PayPal as a form of payment … this is the fastest-growing part of our business … and it has an extremely promising future”.

Chart 2: US E-commerce Sales

Source: Intenet Retailer – US figures and global figures

  1. Mobile Checkout Technology: As discussed in our note of March 20th titled “PYPL: Juggernaut”, the opportunity is for PYPL is to follow the customer use of mobile devices from the online environment to the offline environment accounting for ~90% of global retail sales. The offline environment offers PayPal greater scope for a value proposition than online where the main thrust is to improve conversion rates by first removing the need to enter card credentials onto a screen and second, in the case of mobile and through One Touch, to reduce the number of clicks needed to authorize a purchase. The impact of these “buy-button” technologies has been to increase conversion rates (i.e. the percentage of site visits resulting in a sale) particularly on mobile devices where small-screens make it particularly irksome for a consumer to enter card credentials (Chart 3). We cannot quantify how much of the improvement in conversion rates is attributable to buy-buttons other than to note that Visa Checkout[3] and PayPal Express both claim to reduce cart abandonment from ~60% to below ~40% while PYPL claim that One-Touch (now deployed to ~10% of PayPal consumers and allowing them to skip the PayPal log-in screen) reduces cart-abandonment to ~20%.

Chart 3: US E-commerce Sales

Source: Monetate ecommerce quarterly 2015q3

Offline, however, the consumer value proposition needs to be different since a traditional card-swipe, unlike entering card credentials into a web-site, generates little friction. Indeed, this has been a challenge for Apple Pay which is simply a form-factor substitute (phone for card) and, with the initial novelty now wearing off, has seen eligible usage decline by 20% over the last year. PYPL’s agenda is meaningfully broader around not merely replacing the card-swipe but transforming checkout and integrating the earn-and-burn of coupons/loyalty points into the main payments stream as well as supporting merchant apps more broadly in marketing and consumer engagement initiatives through, for example, capabilities such as order-ahead and digital receipt management. To this end, the firm has assembled a market-leading suite of merchant-support technologies including through the acquisition of Braintree, Paydiant, and most recently Modest. Apple does not have these merchant-facing capabilities.

©2016, SSR LLC, 1055 Washington Blvd, Stamford, CT 06901. All rights reserved. The information contained in this report has been obtained from sources believed to be reliable, and its accuracy and completeness is not guaranteed. No representation or warranty, express or implied, is made as to the fairness, accuracy, completeness or correctness of the information and opinions contained herein.  The views and other information provided are subject to change without notice.  This report is issued without regard to the specific investment objectives, financial situation or particular needs of any specific recipient and is not construed as a solicitation or an offer to buy or sell any securities or related financial instruments. Past performance is not necessarily a guide to future results. The analyst principally responsible for the preparation of this research or a member of the analyst’s household holds a long equity position in the following stocks: JPM, BAC, WFC, and GS.

  1. http://www.paymentssource.com/news/risk-management/apples-app-and-pay-model-could-ease-uks-security-woes-3020356-1.html
  2. Source: eMarketer
  3. Source: Visa and Pymnts.com
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