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Visa (V) Stock | NYSE: V

Covered by Stratosphere

The Payment Rails

Visa Inc. ("Visa") may be one of the best businesses on the planet. The company is largest payment processor in the world collecting a tiny fraction of transactions all around the globe on its network. The business has created a very durable position with a two-sided network effect. 

Visa is the largest payment processor in the world. Visa is a payments technology company that connects consumers, merchants, financial institutions, businesses, strategic partners and government entities to electronic payments.

Stratosphere Score

9

Growth

5

Valuation

9

Quality

9

Margins

10

Dividend

6

Balance Sheet

7
Braden Dennis

Author

Braden Dennis

Founder

Investment Thesis

  1. Visa possesses one of the most durable two-sided network effects in the world. If new payment networks were to be introduced, they have to convince both consumers and merchants to start using the platform creating a lot of friction for new businesses to enter the industry making Visa's position vey difficult to disrupt.

  2. Visa does not lend money, thus not taking on credit risk. Visa generates revenue for what are called Assessment Fees on credit card and debit transactions. The business is a tax on cashless payments worldwide.

  3. It is no secret that cash is being disrupted across the globe as payments go digital.  In addition to the percent of digital spend that is done online, more payments are being done on the credit card networks. Visa benefits greatly from the long term disruption of cash. Globally, there is still a long runway as the trend to cashless continues.

  4. Visa simply provides the technology to facilitate transactions with their network yielding incredibly high margins. Visa has an average free cash flow margins of 45%. These are unit economics most businesses could only dream of.

Key Company Metrics

A set of metrics we constantly keep updated to monitor the investment thesis.

Competitive Advantages

The Two-Sided Network Effect

Strong business moats have high switching costs and are difficult to replace and achieve the same result.

Visa is a perfect example of a business that has an extremely difficult to disrupt business model due to the fact they have what is called a two-sided network effect.

Since the business has such strong market share with consumers and merchants, both parties have agreed to use this method of payment.  If new payment networks were to be introduced, they have to convince both consumers and merchants to start using the platform creating a lot of friction for new businesses to enter the industry. 

This is why financial technology innovation continues to be built on top of the payment rails.  The existing infrastructure is already incredibly reliable, fast, secure and accepted everywhere.

The Payment Rails Duopoly

Visa and MasterCard own about 95% of the market together, excluding UnionPay in China, as measured by purchase transaction amounts made on network cards. Visa owns over half of the market itself.

This duopoly position allows Visa to reap the benefits of pricing power stemming from high barriers to entry. Smaller players have a tough time competing with the monstrous unit economics of Visa.

This is yet another reason why new innovators struggle to get around Visa and instead choose to build on top of its payment network.

High Margins for Growth

Visa has incredible unit economics that are a direct result of its globally recognized name, high switching costs, and powerful network effects. Free cash flow margins consistently above 40% are unbelievably high. Combined with a clean balance sheet, Visa has the ability to exercise opportunities in tons of verticals, namely cryptocurrencies and Buy Now, Pay Later ("BNPL"), and many others that exist today and those that will exist in the future.

These margins and resulting cash flows allow Visa to remain agile, even as a company worth almost half a trillion dollars. High margins = growth for Visa.

Toll Booth Business Model

Visa, like MasterCard, owns a large market share in the credit card business because of the high-value, open-loop network it provides. Through its open-loop payments network, Visa allows credit and debit card issuers (i.e., banks, stores, etc.) to connect with merchants (i.e., online or physical stores).

By connecting these two parties, consumers and businesses can transact with merchants using a credit or debit card, with funds being transferred in mere milliseconds.

Visa provides the payments network, but does it lend any credit? The answer is "no". Visa's business is far more durable - it acts as a toll booth on global digital transactions as opposed to a bank lending credit.

While Visa takes the smallest cut of each transaction (the issuing and acquiring banks take most of the fees charged to a merchant in a digital transaction), the sheer market share it holds as well as the payments volume flowing through its network each year has allowed Visa to grow at rapid rates.

Credit Card Economics GraphicThe total transaction processing fee can range from about 1.3% to even 3.5% at the high end.  The range for fees to accept credit card payments is due to the varying interchange fees in a transaction.

Opportunities Ahead

  • It is no secret that cash is being disrupted across the globe as payments go digital. Not only is the world seeing e-commerce penetration increase, physical shopping is increasingly done using methods that use the Visa or MasterCard payment rails as opposed to cash, cheque, or other traditional methods.

  • Visa's total addressable market ("TAM") continues to expand. Visa has three main avenues through which it will grow revenues - consumer payments, new payments flows, value-added services. While the TAM expands, Visa benefits from a two-sided network effect. We believe areas of concern to some investors, like cryptocurrencies and BNPL, are net positives to Visa. These technologies are too nascent to disrupt the networks, and as such, are far more likely to partner with or sit on top of the rails as opposed to circumventing them entirely.

  • Cross-border revenues are coming back. A significant driver of revenue is cross-border transactions - transactions done in a country other than the country of the cardholder / issuing bank. These transactions incur higher assessment fees, driving a higher take rate for the payment networks like Visa. Although COVID-19 accelerated growth in digital payments, cross-border transactions were severely impaired. As travel is picking up steam and the world continually returns to some level of normalcy, cross-border transactions have been picking up steam.

Visa Growth Opportunities Graphic

Risks

Disruption Risk

Visa has one of the strongest moats and brands of any business in the world.  It is incredibly difficult to disrupt the network and infrastructure the company has built around the globe.

However, one of the leading risks in the terminal value of the payment networks lies in the idea of decentralized finance (or "DeFi") primarily from the rise in cryptocurrency.

DeFi transactions would happen a decentralized protocol, whereby businesses like Visa would entirely be left out of the equation. Additionally, emerging economies with heavy cash usage may turn to decentralized protocols to build out their payments systems instead of Visa or MasterCard.

We believe these are tangible and significant risks, although DeFi technologies are still relatively nascent today and do not pose near-term risk. These are risks we will be watching over a long-term horizon.

Cyclicality

Visa's business is prone to volatility in the consumer and business spending environments. Economic recessions, closures, lower cross-border travelling, and any other events that could possibly harm any region’s aggregate spending appetite will hinder Visa's growth.

Pricing

Although Visa does not make money through interchange fees, Visa sets these fees in compliance with local governments. Several governments and merchant groups have pushed Visa to lower interchange rates. Lower interchange rates may impact a local issuer’s willingness to promote Visa-branded products, ultimately harming Visa's business.

Disintermediation

Fintechs, governments, and other technology companies pose a competitive risk that may affect pricing or how Visa competes against them. Protective regulation, such as PSD2 in Europe, enables smaller players to create disruptive payment models that banks can adapt to and roll out to the public. These sorts of regulations can route payment transactions away from the Visa network or foster an extremely competitive environment in which Visa may be able to compete in a fashion that will sustain its growth and profits.

Regulation

Visa is a massive player in a duopoly. The company faces antitrust risks that may block solid strategic acquisitions or partnerships that regions or governments perceive as predatory. They may also block certain internal initiatives that attract additional market share to it. With the shift to cashless, we believe risks in this regard will only increase as MasterCard and Visa grow larger.

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