Embracing MBE’s risk profile

The mobile marketing and payments company has risen strongly, but can it maintain the pace?

Sydney-based Mobile Embrace (MBE) has established an early mover advantage in the local mobile payments and advertising market. With the share price increasing more than 10 times over the past year, the sharp increase in earnings has not gone unnoticed.

The key questions that need to be answered include how effectively the company can expand into new overseas markets, and the extent to which the company’s intellectual property (IP) is defendable in a sector that will inevitably become more competitive.

If, as management suggests, its end-to-end mobile payments solutions are scalable overseas, then the upside is huge. The targeted expansion regions have a customer reach far greater than Australia. While overseas partnerships have been formed, so far earnings have been primarily Australian based.

With high penetration rates of smartphones and tablets, recent industry forecasts are pointing towards rapid growth in mobile internet usage, mobile advertising and mobile online transactions.

Specifically

  1. Research group Nielsen forecasts that mobile internet usage will overtake desktop internet usage in 2014.
  2. Mobile payments for online purchases will increase six-fold from $18 billion in 2012 to an estimated $117 billion in 2017.
  3. Global mobile advertising market is expected to grow from $13.1 billion in 2013 to $41.9 billion by 2017.

Management

The senior management team is led by Neil Wheiss (managing director) and Chris Thorpe (chief executive). The experienced pair have been working together for 10 years, with Thorpe the face of the company and Wheiss focusing on behind-the-scenes work. Between them they own around 12%, with both having recently sold down a small percentage of their holdings.

In 2011, when the company was going through a rough patch, the management team agreed to a 10% pay cut, which remains in place today.

A majority of key staff have long-dated options that are well in the money. The options have clauses that they will be forfeited if they depart the company early. Given the competitive market, and the rush to expand customer reach as quickly as possible, this ability to keep key staff mitigates some risk around company IP.

MBE – The Mobile Enabler

The dual offering of mobile payments and mobile marketing is displayed below. The differentiator is the end-to-end offering of both and the widely developed sales channels.
Graph for Embracing MBE’s risk profile

m-Marketing – 4th Screen

Representing approximately 25% of revenues and a lower proportion of profits, this division doesn’t hold the same scope for expansion as the m-Payments (see below) due to the less scalable offering and high competition.

MBE’s m-marketing is effectively a middle man between publishers and agencies/brands. They have access to a tier-one network of premium digital publishers. The mobile marketing toolkit enables creative advertising solutions for a growing list of large brands.

The division has a growing list of meaningful customers – such as Coca-Cola, McDonald’s, Subway, ANZ Bank, Cadbury, Vodafone and HP.

While initially the division has been run separately, there is scope down the track to cross-sell both ways with the payments division.

m-Payments - Convey

In the m-payments Convey business, to the best of management’s knowledge, MBE is currently the only Australian company that offers a combined offering - integrating mobile media buying, a customer management platform, mobile products and services and the payments platform.

With the management team developing its IP since 2005, recent results and new global partnerships would suggest they have more tricks up their sleeve than they are letting on. Given the forecast industry growth and expected new entrants, it is not surprising that much of the detail surrounding its offering is strategically removed from the website and results presentations. Having said this, it does leave investors somewhat in the dark regarding how secure the business is over the long term.

By way of example, there is very little information on the strategy towards its mobile products and services. Some are developed and owned internally. They also target product owners/developers in a partner agreement. With considerable experience in this space, and given the constant flow of new products, it is a capability that can’t be underestimated.

Similarly, their ability to run targeted media buying campaigns is well renowned. They have a media buying trading desk in Sydney, enabling them to find the most profitable placements of banner ads for a particular product.

If, for example, as part of a product reach campaign they wanted to target males likely to be near the Melbourne suburb of Tullamarine from 4-6pm, then it can be efficiently done.

Mobipay provides the platform for one or two touch payments for digital products on mobiles or tablets.

As stated, there are competitors in each one of these service components, but thus far there is no-one else in Australia that offers an integrated solution.

While partnerships are formed with telcos, payment providers, aggregators and content providers, it is the consumers’ demand for its mobile internet products that drives revenues. Currently there are approximately 100,000 average weekly transactions, with average revenue of $3 per sale.

Direct Carrier Billing (DCB) with telcos

In Australia direct carrier billing (DCB) agreements are in place with Telstra, Optus and Vodafone. This enables a customer who has a phone bill with these providers to add the cost of the mobile internet purchase to their monthly bill.

While there are multiple mobile payment options available, and many innovative new products likely to be launched, the DCB does address a gap in the market. That is that there are around 7 billion SIM cards in the world and only 2.5 billion credit cards. With the proportion of smart phones still increasing, the gap is likely to remain.

There are other quick options coming into the market such as Paypal, and Google Wallet, some of which at least initially require a credit/debit card for instant use.

Although MBE has focused on the carrier billing, it also partners with the other options such as Paypal. Its IP enables it to offer payment methods that are most likely to suit customers. For example, if a customer is using wireless, and a SIM card is not identified, it has the capability to only offer Paypal as a payment option.

Whilst the company’s largest focus is on obtaining further DCB relationship in new markets, there are advantages from the development of new one or two touch payment options. That is, it ensures the telcos don’t have too much power in relation to their profit share. Although the telcos don’t have exclusive relationships, it is at least a six-month process to form a partnership. Hence, the trend thus far has been that the telcos are very careful with who they form an arrangement with. 

In the last six months, SingTel has been signed up for expansion initially into Singapore, with plans to expand into other Asian countries.

In December, an initial agreement with US-based Sprint was announced, the third largest telco in the US. It has been identified that a connectivity partner is required, and given the complex structure of the US market there is potential for a longer-than-usual setup time. If this successfully progresses, then the ability to target the US market obviously provides growth potential, many multiples above what is obtainable in Australia.

This week an announcement was made about a partnership with Syniverse to enable a faster rollout to more telco carriers, especially in Europe. Syniverse already has its one touch or “frictionless” payment product established with many large telcos. So while MBE will give away some of the revenue for the payment platform in this partnership, it will enable a much faster expansion in customer reach via new DCB relationships. 

The reality is the establishment of new partnerships does cost money, and is not profitable for at least the first few months of operation. Hence, with limited funding, management does need to be careful in selecting the markets that provide the best opportunities.

Large players - transitioning landscape

The dominant tech companies such as Paypal, Amazon, Google, Square and Apple that are developing new mobile payment products at this stage generally don’t have the other capabilities that MBE does. These are specifically in relation to a combined Reach, Target, Transact and Embrace service around the mobile products. That’s why there may be opportunities to partner with some of these big players.

MBE management is close to an agreement to enable Google Wallet as a payment option for its products.

However, one thing that is guaranteed is that with all the major tech companies investing heavily in the space, it will be fast moving and the challenge for MBE will be to find a way to fit in with the changing structure.

In regards to mobile payments generally, there also is a focus by the large players in developing new mobile point of sale technology – i.e. enabling the ability for a retailer to accept mobile payments for non-digital products in a store. This is not MBE’s space and doesn’t directly affect its current offering.

The forecast amount of growth in online transactions means there is much at stake for banks, telecom providers, payment providers, phone manufacturers and others. This leaves the potential for a large list of risks including regulatory, new technology, competition etc.

Financials

In regards to our earnings forecasts, our FY14-FY16 forecasts are on the conservative side. Specifically, we are including a slow ramp-up from the SingTel carrier agreement, and further delays to the potential US-based Sprint deal. There is upside potential from both of these, and we understand the company is working hard to lock in further direct carrier billing arrangements with large potential to increase the customer reach and resultant earnings.

The visibility of near-term earnings comes from locked in advertising contracts and a continued rate of growth from the existing mobile products.

In regards to average weekly payment transactions we are assuming they increase from 95,000 in FY14 to 140,000 in FY15 to 170,000 in FY16. With the average revenue per transaction remaining flat at $3.

We have a conservative discounted cash flow valuation of $0.25 assuming a 13% cost of capital. There is large upside to this valuation from overseas expansion and the scalable nature of the mobile payments offering. However, there is also large risk from the competitive nature of the mobile payments industry.

On a PEG (price earnings ratio in relation to the forecast earnings per share growth rate) basis the company rates very well for the next 2-3 years, with an FY15 PEG of 0.17 and an FY16 of 0.2

MBE --> $0.215

FY14

FY15

FY16

Basic EPS (cents)

cents

0.74

1.40

2.08

EPS growth

%

88.4%

48.7%

PE

28.9

15.4

10.3

PEG

0.17

0.20

Summary

We have a neutral recommendation, and highlight the high risk related to the longer-term uncertainty of the company’s position in the industry. The near-term upside potential will largely depend on management’s ability to execute on the opportunity to increase the company’s Direct Carrier Billing arrangements from four to its target of 10.

To see Mobile Embrace’s earnings forecasts and financial summary, click here.

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