Paysafe Limited (PSFE) Earnings Call Transcript

Good morning, everyone. I'm James Fotheringham. I cover U.S. financials at BMO Capital Markets in New York. It is my genuine pleasure to have Philip McHugh, the CEO of Paysafe; and Izzy Dawood, the CFO of Paysafe with us today. Guys, thanks so much for joining. I really appreciate it. I wanted to start just because some of the investors that we have dialed in are new to Paysafe. I wanted to give you an opportunity to simply describe where you sit within payment technology. And as you know, we're fans of your stock in part because it's cheap relative to revenue growth potential. And the revenue growth potential is exciting to us because of the Digital Wallet initiatives that you have and how integrated they are with merchants, specifically within the iGaming vertical, to which you have a disproportionate exposure, which, of course, is exciting to us because we're waiting for the U.S. iGaming market to really take off following a legalization wave, which is probably more than halfway through. Anyway, there's my view, but I wanted to pass it to you guys, please, to give just an overview of where you sit. And specifically, the advantages that Paysafe has from a revenue growth potential to justify what we see as a -- should be a higher multiple than where you're trading now.

Yes, sure. Thanks, James. I'll take that. So I joined Paysafe 2 years ago. Before that I ran all the merchant divisions for TSYS and before that, all the kind of payment and corporate divisions at Barclays. And the attraction to Paysafe was pretty obvious on paper, one, it's a more scaled business than people appreciate with over $100 billion of processing volume. It's a truly global business. But really, Paysafe excels in a couple of areas, which I think are just long-term kind of secular growth pieces. One, we're unique in the sense that we have scale solutions on both the merchant side and on the consumer side. So we're able to not only take payments with the merchant, we actually have a scaled Digital Wallet platform and a scaled eCash platform that brings in millions of consumers into the ecosystem. And with that, we also bring in over close to 100 plus APMs into that ecosystem as well. And we certainly think that not only -- it's not the future of payments, I think it's the current state of payments and accelerating. It's not just about credit and debit card processing. It's able to bring digital wallets into those ecosystems, which are customers. You can do pay in, pay out. You can do peer-to-peer payments. You've got a lot of functionality that really, really matters. You can make cash digital. We think that's a very fast-growing and very valuable APM globally, not only for under bank, but for Gen Z and lots of emerging consumers where we see a strong pickup. And more and more, we're seeing real-time bank payments. And eventually, we see crypto as a payment form as well. And we see Paysafe as a company that's well positioned to be able to connect those -- all those different payment types to a merchant. So we own the APMs, and we have the connections with the merchant. So that's one -- that ability is incredibly strong. Two, we like to go into deeper verticals. We're not so much a generic retail player. We think that's a tougher space. Our roots are in iGaming. So about 1/3 of our global revenue is linked to iGaming revenue, predominantly Europe and kind of some international markets. And obviously, the U.S. is extremely fast growing, and I'll talk a bit about that in a second. But we also are seeing good pickup in what we call online or kind of video gaming and digital goods. We have some specialized services in travel where we can really de-risk delayed delivery and create a really, really valuable service to travel carriers. And then finally, in crypto, both on the wallet side, allowing the wallet to trade, buy trade and share crypto, but also on the processing side in terms of accepting payments to trade in crypto and we're investing more and more in that area as well. So we like deep specialized verticals. You need global presence. You need to -- you can't be a card player, you've got to be multiple, multiple APMs and really understand those merchant payment rails. We can bring consumers into the ecosystem, so that helps the merchants sell more and you've got to have really, really deep risk management. We have over 300 people just in compliance and risk. That is not normal. I was at TSYS and even at Barclays, you could be -- those divisions are in the handfuls of people. We really focused on it, and we think that gives us a sustainable edge and interesting market. So that's a snapshot of how I describe Paysafe. It's a merchant and consumer side, deep APM experience, and we see the world as lots these emerging payment rails, and we can be the provider for that. We like our deep verticals. We like our risk management. Those are some of the kind of highlights.

Can you talk about U.S. iGaming now. You promised that you'd touch on that, and let's get to it right away then. What inning are we in right now in terms of market development?

Yes. So let me frame it from a growth story perspective, and then I'll talk a bit about the market. So again, when I look at Paysafe and take a step back in our growth algorithm, I really kind of bucket into 3 pieces, James. So one on our merchant side, we have a pretty scaled U.S. SMB business. It's big, it's scaled. It's growing very well right now. But in the long term, I see that growing like kind of 9% to 10%. On the other side, we have our Digital Wallets, our eCash and our e-commerce gateway solutions. And those really, really win in emerging verticals like iGaming, online gaming, crypto, et cetera. And we see that kind of 15% to 20% growth over time by being in those markets. And then specifically, about just under 2% of our revenue is linked to U.S. iGaming, and that's growing at over 50% right now. So 75% plus volume, 50% revenue, and we see that as a pretty long sustainable piece. We've got a very, very high growth sector in there as well. So when we do the math on that, we get to kind of sustainable organic double-digit top line growth with some margin management, we see stronger EBITDA growth over time. So that's how I think about my long-term financials, a bit of my framework. Within that U.S. iGaming piece, I'd say we're in the third inning still. We certainly have seen tremendous progress, states like New Jersey have opened up, become very, very vibrant. We are approaching about 25 states by the end of this year, we'll open. So you can say 50, well that's 50%. But actually, I think it's still on the lower end of that. New York still hasn't fully opened up. And when it opens up, it'll be limited initially, Florida will open up through the Seminole Tribe. We'll see that evolve with kind of 1 player coming in, maybe the 2 or 3 players coming in over time. California and Texas have not opened up yet, and those are mega markets. And then finally, some of the markets there are open, they're already opening up in a single thread, maybe just for lottery or online poker, but they haven't done full sports betting yet. So even within the states that are open, they have -- they're all on growth evolutions themselves. They're attracting customers. They're expanding the games and the engagement with customers, while -- where also each new state is effectively a new market. So when I do that math, James, I kind of get to the third inning. I think we'll be in the kind of halfway through kind of early next year. And then there's still plenty of runway to go from there. The last thing I'd add is Canada, which is not part of the United States is my Canadian brother-in-law keeps reminding me, I'm in Vancouver today, so I've got Canada on my mind. But Canada is opening up, and it's a single event sports betting. And we have a tremendously strong position. We're integrating to 100% of regulated gambling companies in Canada. So literally, every operator processes with Paysafe. And as sports betting opens up, we think we're in a good position. In the U.S., we have a gateway integration, and the 75% of the -- a way Paysafe integration is 75% of the operators, growing mainly through gateway and processing. And then we're investing in growing our Digital Wallet as a fast follow-up.

When we get to the bottom of the ninth, how many states will be legal? And will we stop at 25? Or do you think there's momentum for more states to go?

I think there's momentum for more states to go. I think there's -- some of the -- I think you get to kind of 30%, 35% pretty easily. I think in states like California, it's not about political, it's not about acceptance. They need the money, they want the money. They see it's a vibrant economy in many other states. It's more politics between tribal casinos and state legislators. This stuff takes time to iron now. So it's more -- it's less about an if versus a win. So I think Texas and California will be the 2 big ones to watch. But we'll see Wisconsin, we'll see, kind of wrote some notes here. South Dakota, Connecticut, they're all in the pipeline. And then some of the Southern states, you'll typically have a bit more resistance. We're seeing legislation in North Carolina, which is actually on a positive trend, but it might go through a round or 2 before it finally breaks through.

And when we finally get beyond the ninth inning and let's call it immature, it seems like such a long way away from now, but a mature U.S. iGaming market, how consolidated do you expect the competitive landscape to be? How much market share do you have now, which you can highlight? But more importantly, when the markets mature, what's the target market share that might be realistic?

Yes. So like I said, we're integrating to about 75% of the operators. We probably have about 25% of the volume, Izzy? I think, give or take. It's hard to kind of fully verify that, but that's how we think about it in terms of on the processing side. There will be consolidation. I mean you've seen it, right? You've seen just recently, the Barstool deal, you've seen Golden Nugget draftings come together. There's tremendous investment and then there'll be consolidation for the return on investment. And we're okay with that. We expect that we have a very broad integrations and as the market integrates because we are so plugged in, in so many operators, we think net-net, that positions us pretty well. So would we love to get a kind of a steady state around kind of 20% of the processing share of that, I think that would be a good outcome. On the wallet side, we have more work to do. To give you a sense on the wallet side, we typically get about 10% of the cash here in mature markets. So let me kind of break that down when you're an operator, we always think about it from their point of view, and we actually have lots of on our team that come from the gaming industry, which is fairly unique in payments. We break it down into kind of a horizontal view and a vertical view change. So the horizontal view, they want to accept as many payments as possible, they don't care. They don't care about cards or whatever. They just want people to play more with less friction. So there's credit and debit card, there are instant bank payments, there are wallets and prefunded products like prepaid, there is cash, and there is demand for crypto. So all those payment rails, right? This is not just an iGaming issue, but that's how they see it. With a single integration, we give credit and debit card. We plug in our digital wallets, we plug in our eCash. We have a bank transfer product with VIP Preferred partnership with Global, and we'll continue to develop that as well. So we definitely solve more of the [ cashier ] than most players. The flip side, if you're looking from a customer point of view, kind of vertically, you've got your casual players, they might use credit cards or kind of digital cash or something like that or maybe a prepaid account. Then you've got your kind of weekend players, they kind of bet regularly. There might be your fantasy football player, [indiscernible] person. They'll use a lot of cards, they'll use some wallets as well. But then you have your VIPs. And the VIPs, they bet higher amounts. They want instant funding. They want to be -- to play across multiple platforms and bet against different odds. And they can represent anywhere from 10% to 40% of operators' cashier volume. Our Digital Wallets have really catered to that group. And so typically, what we're getting is we're getting 1/3 to almost half sometimes of the VIP volume, and that nets out to kind of 10%, 12% of the total volume. So that's where we're focused to go after a mass retail position will be hard for us, but we're very good in terms of instant funding, higher volumes to bet that day, very quick pay in and payouts, multiple ways to fund and support for VIPs. And these are some hooks that give us edge to -- certainly proven out in many markets, and we're adapting that playbook to the U.S. market.

That's very helpful. That framework, the horizontal vertical, if you could stick with that framework and just to highlight where -- who is the competition across those suite of products?

Yes. So the first thing we -- there are a very few players that can compete with us across all the products, right? So we might have a competitor on one strip and another strip. At the end of the day, though, it's about share, right, get us the cashier's share and share of mind of the VIP and the mass consumer. So the biggest competitor is PayPal. I mean, obviously, PayPal is massive just by sheer inertia and size. And they have shown some interest in this industry. They've got the Braintree gateway. They've got the PayPal Wallet. So we do see them quite a bit. We see some specialized smaller players, Sightline, has kind of been a niche player in there. PXP has some kind of legacy gateways with a couple of big players that are in there. I certainly think on the gateway side, we would certainly see ourselves as the leader in that market. On the wallet side, we see ourselves as the incumbent in many international markets, we're the scrappy challenger in the U.S. right now. So that's our position there. And then on the eCash side, it's a smaller piece. It is a significantly smaller part of the puzzle, but pay with a -- PayNearMe is an incumbent. And we've been really pleased with a couple of big victories recently with FOX Bet, PokerStars. So we're starting to chip away at that share as well.

I think -- how would you assess Paypal's pay and payout technology relative to your own?

Yes. And I think the power of the wallet is incredibly strong, right, because you want to move money across multiple platforms. And the pay-in and payout is great. And it's not only great for iGaming. We see multiple areas of where the kind of gig economy, and we're being able to do scale payouts with multiple APMs is a real advantage. For us, there are a couple of things. We're certainly in terms of the pay and the ability to fund the wallet. We're looking at VIP instant approvals of much larger tickets, much larger limits than what PayPal would typically do. So that's certainly an area where our product offering will certainly beat them. We're looking at much more kind of bespoke rules in the iGaming space to allow also faster payouts out of the wallet as well. And we actually have quite a few people from PayPal that ran their instant funding and pay-in and payout businesses. So we have a good sense of their policy, their limits and their pricing. We also have good feedback from the clients. We have 8 operators plugged into the new Skrill product. We see that growing, but it's early days. We've got to build up volume and use cases. We're talking to a few players about preapproving their VIPs. These are the areas where as big as PayPal is focus on the customer, focus on what their needs are, give us an edge, and we see that work in other markets.

So I have 2 different types of conversations on this front with our clients, investors and potential investors in your equity. Some of them highlight the fact that PayPal is 10x the size and investing in tech to win market share is an absolute dollars game. So they worry about your ability to compete in this IT evolutionary arms race just given scale. And then there are other much more optimistic investors who think, well, if PayPal or Adyen, which you didn't mention or Stripe, some of the bigger players really decided to focus in on this very high-growth opportunity in U.S. iGaming, maybe they prefer buy, not build both relationships and the technology that a company like Paysafe has. So if you don't mind on both sides, addressing how you compete with larger scale players in terms of absolute dollar investments in IT, but also talk about your openness as a company to be a target for larger competitors with scale who might want to acquire relationships and IT, sorry to put you off though.

Yes. No, no, that's fine. Yes, the consolidation in payments is a really interesting one. In 1 sense, it's an absolute fact, right? It's a scale business. The bigger you are, it's a tech platform, so dollars create that kind of virtuous circle and that momentum. It is true, although the declaration of there will be consolidation, there will be 2, 3 winners. It has been -- I've been wrong 50 times on this piece. Global, Fiserv and FIS consolidated like crazy, and everyone claimed that was the end of the processors. But if you look at the top 20 payment players every 5 years, the names of the top players changes all the time because people figure out how to specialize. Stripe is really focused on the developer, Adyen is really focused on single API integration for global APMs. And Square is basically becoming a bank for SMBs. Very different value chains being created everywhere. And so that's my general view on this kind of winner take all, and there's kind of winners and 3, 4 winners and a bunch of losers. I think it's constantly predicted and not necessarily coming through yet, that's part one. Two is, look, we're not trying to compete on them in the pound for pound retail space, where I do think that is hard. Gaming -- to be really good at gaming, a couple of things. One, you have to have incredibly good risk management, okay? It's not just about plugging your platform. You have to do a regulation every single state. You have to understand geofencing. You have to have understand payment and gambling regulation in hundreds of countries because you're not just dealing with a U.S. client, right? Bet365 is a big client of ours. We're in 100 countries with them. We're actively discussing their Canada strategy. We're actively discussing their Brazil and North LatAm strategy where there's lots of growth. Flutter is another one where they have tons of brands. They want partners that can follow them from a payment and a gambling perspective in many, many markets. You need the banks to be set up, you need risk management, you need regulatory and technology. So it's not just a matter of Stripe showing up with an easier API. They have -- I would argue that for an SMB, a Stripe API is better than ours, it's not how much better. I mean we're pretty competitive, and we're certainly in the top quartile in that space, but we bring these other pieces. We see the same thing in other specialized verticals as well. I'll give you an example in the crypto space. Again, it's KYC, yet we've invested in Elliptic. It's about having bank capacity as well as the technology. So that's why we like the deep verticals. And it's absolutely where is -- why I was attracted to Paysafe that multiple emerging APMs, a deep verticals or areas of real value versus trying to go head-to-head in kind of the general retail space, which I do think is more susceptible to this kind of scale economics.

So could you address the other side of my question, which was Paysafe as a target. So if you have these specialized capabilities in an area that is demonstrating and will continue to demonstrate outsized growth, what's the attitude of the owners, Blackstone, CVC, Cannae, FTAC force -- you considering offers if they were to come about?

Not at these prices for a long time. I mean, it's just -- we are absolutely frustrated by the share price, and we can address why we think we are where we are. But there's not a single person, you won't see Blackstone and CVC going out there doing big block sales anytime soon. They see our story, they see the pipeline, they see kind of top-of-funnel pipeline we have at the company, where we're gaining traction, not only in the U.S. iGaming, but in crypto and travel, online gaming. We've got lots of growth from our position. So the best way to describe our sense right now is frustrated, but confident. And that's not a mindset to sell. If we get down the line and we kind of get to a much better price point that didn't have the SPAC overhead and it doesn't have the PE overhang, frankly, doesn't have some of our legacy issue overhang as well, we get to kind of a much more normalized comp. We get to the kind of the more steady long-term growth rates that we talk about. At that point, do we think about something that creates value? I think sure. I think that's always something we should consider. And there are very few to companies of our scale and our profile in the world. So we are a unique asset that I think has a lot of value. But we -- right now, the mindset would be to see through some of these overhangs that we're suffering from and get to a much stronger place.

Well, thanks for opening up the door for me to ask a little bit more about that. I think I share your frustration and your confidence. And I say that with the buy rating and a target price that implies a very, very meaningful and exciting upside. Some of the de-rating, so if you just put the SPAC discount to the side, some of the de-rating was clearly inspired by the 2 quarters you reported so far. So can you just talk about the share price reaction to your 2 reports out of the gate? And your interpretation of what happened, and what the strategy is to rebound and re-rate?

Yes. I think I've kind of boiled it down to 3 pieces. One is our performance, two is the SPAC downdraft and three is the private equity kind of overhang as well. I think those are all 3 pretty meaningful variables. I think the SPAC overhang is probably the biggest drawdown right now. Some of the short-term -- shorter-term more opportunistic SPAC investors kind of clear out kind of what kind of call the more fake-hearted investors. But ultimately, the thing that we can control, the thing that matters the most is the performance of the story. So we delivered our Q1 in line with what we said. We beat Q2 on top line, and we're on the top end of our guidance for bottom line, and we reaffirmed the full year. So out of the gate for our sins, in this market, while that's not a bad outcome, relatively speaking and certainly against expectations, it's been seen as a poor outcome. It should be beaten [ raise ] significantly is almost the baseline now, and we have not done that. But we have made it extremely transparent. I think the amount of information we give, how we explain the story and hitting targets has been very strong and consistent. Having said that, what I would say is the follow. It's a complex story, James. And that -- the patience for investors that we see for that is fairly low. So we have 2 legacy items. In our Digital Wallet, we've had an exit of certain high-risk markets and network accounts. And I was certainly brought in to really mature Paysafe to the next level, and that was about execution and focus. It is also about while we're a high-risk business, we also had to de-risk and get out of some things where we didn't like the risk. We didn't think there were sustainable risks. So we're going through that piece in Digital Wallets. We have to -- we kind of have to lap those issues in the second and third quarter and start seeing better growth starting in the fourth quarter onwards. That's part one. The second one was our -- the direct marketing segment in processing, very high-margin business. Again, it's higher risk. It's a complicated business, and we like that. It's hard to do, hard to copy. There is a pretty meaningful market correction. And were not for that piece, we would have been at 14% top line this year and closer to 20% bottom line, but we are going through it. So it's another thing to explain. And so there's a little bit of -- is there another shoe to drop kind of concept around Paysafe, which I agree is a fair question to ask, and I get that the investors got very excited about that, about the growth opportunity, but then they have to hear these kind of caveats, if you will. So we're hyper aware of this. We are going to have a softer Q3 and a very strong Q4. And there's some wait and see, show it to me, don't tell it to me mindset, which we certainly appreciate. We understand where that's coming from. It's for us to prove. We see it. We see the absolute seasonality, especially in wallets. We see the turnaround in some initial signs of the direct marketing recovery. And most of all, we see our top of funnel pipeline, particularly in our e-commerce and gateway business. And so that's what's given us the confidence on reaffirming for the full -- for Q4. But we also understand some of the pullback from our story in the first 2 quarters.

On the reaffirmed guidance and on the cadence of the year, a weaker third quarter followed by a very strong rebound in the fourth quarter. Could you discuss the factors that buttress your confidence for that very strong fourth quarter rebound for what it's worth, the clients that call me on that reaffirmed guidance have some skepticism of really betting on fourth quarter? And how confident are you in that rebound and why?

Yes. It's those 3 factors. It's those 3 factors. So we do see absolute seasonality in wallets. Last year, it was a weird season because all of the soccer and UEFA cups got delayed and then restarted in the summer. So it was a little bit off of a normal rhythm. And this year is much more kind of normal seasonality. It's very linked with Premier League Football and UEFA in Europe. And to an extent, India Premier League in cricket is actually a bigger driver than people would appreciate. So those rhythms matter, and the summer months are slower, and the autumn months and winter months are stronger periods. So we do see some of that coming through. Two, we had that pretty severe correction in direct marketing. The market has stabilized. We're starting to see net account flows come through. And we'll start to see some pickup, especially in Q4 and then definitely in Q1 of next year is when you see some real strength in that market. And then the third one -- and probably our biggest driver is the top of funnel. We've been very focused. We talk a lot about iGaming, which is a strength of ours. Can you guys hear me? I got a little pause there.

No, no. We didn't a thing..