E 2016E 2017E Revenue, MSEK Growth 0% -4% 0% 91% 52% EBITDA EBITDA margin 1% -47% -30% 3% 15%

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1 COMPANY ANALYSIS 3 November 2015 Summary (PAY.ST) Cashing in on e-commerce is operating in a market with high structural growth since purchasing of goods and services on the Internet is growing steadily. To be successful on-line, the processing of payments is an important factor for e-retailers. has therefore developed a Consumer Credit service, Invoice as a Service, which enables e-retailers to grow sales and increase profit margins substantially. List: Market Cap: Industry: CEO: Chairman: 0.8 Nordic Growth Market 92 MSEK Information Technology Daniel Ekberger Anders Persson OMXS 30 is currently implementing the consumer credit service for their largest client SJ. is also conducting a number of pilot tests for potential new clients which could lead to additional revenue growth in Our base case valuation is built on a conservative scenario where consumer credit increases only within s existing client base. Revenues from consumer credit is considerably higher than from processing direct payments. The increase in consumer credit is expected to generate high expected growth in the coming years and motivates an estimated value of 1,20 SEK per share Nov 01-Feb 02-May 31-Jul 29-Oct Redeye Rating (0 10 points) Management Ownership Profit outlook Profitability Financial strength 7.0 points 4.0 points 5.5 points 0.0 points 2.0 points Key Financials E 2016E 2017E Revenue, MSEK Growth 0% -4% 0% 91% 52% EBITDA EBITDA margin 1% -47% -30% 3% 15% EBIT EBIT margin -37% -55% -37% 0% 13% Pre-tax earnings Net earnings Net margin -46% -54% -38% 0% 13% E 2016E 2017E Dividend/Share EPS adj P/E adj EV/S EV/EBITDA ,2 6.8 Share information Share price (SEK) 0.43 Number of shares (m) Market Cap (MSEK) 92 Net debt (MSEK) -10 Free float (%) 53 % Daily turnover ( 000) 60 Analyst: Johan Ekstrom johan.ekstrom@redeye.com Important information: All information regarding limitation of liability and potential conflicts of interest can be found at the end of the report. Redeye, Mäster Samuelsgatan 42, 10tr, Box 7141, Stockholm. Tel E-post: info@redeye.se

2 Redeye Rating: Background and definitions The aim of a Redeye Rating is to help investors identify high-quality companies with attractive valuation. Company Qualities The aim of Company Qualities is to provide a well-structured and clear profile of a company s qualities (or operating risk) its chances of surviving and its potential for achieving long-term stable profit growth. We categorize a company s qualities on a ten-point scale based on five valuation keys; 1 Management, 2 Ownership, 3 Profit Outlook, 4 Profitability and 5 Financial Strength. Each valuation key is assessed based a number of quantitative and qualitative key factors that are weighted differently according to how important they are deemed to be. Each key factor is allocated a number of points based on its rating. The assessment of each valuation key is based on the total number of points for these individual factors. The rating scale ranges from 0 to +10 points. The overall rating for each valuation key is indicated by the size of the bar shown in the chart. The relative size of the bars therefore reflects the rating distribution between the different valuation keys. Management Our Management rating represents an assessment of the ability of the board of directors and management to manage the company in the best interests of the shareholders. A good board and management can make a mediocre business concept profitable, while a poor board and management can even lead a strong company into crisis. The factors used to assess a company s management are: 1 Execution, 2 Capital allocation, 3 Communication, 4 Experience, 5 Leadership and 6 Integrity. Ownership Our Ownership rating represents an assessment of the ownership exercised for longer-term value creation. Owner commitment and expertise are key to a company s stability and the board s ability to take action. Companies with a dispersed ownership structure without a clear controlling shareholder have historically performed worse than the market index over time. The factors used to assess Ownership are: 1 Ownership structure, 2 Owner commitment, 3 Institutional ownership, 4 Abuse of power, 5 Reputation, and 6 Financial sustainability. Profit Outlook Our Profit Outlook rating represents an assessment of a company s potential to achieve long-term stable profit growth. Over the long-term, the share price roughly mirrors the company s earnings trend. A company that does not grow may be a good short-term investment, but is usually unwise in the long term. The factors used to assess Profit Outlook are: 1 Business model, 2 Sale potential, 3 Market growth, 4 Market position, and 5 Competitiveness. Profitability Our Profitability rating represents an assessment of how effective a company has historically utilised its capital to generate profit. Companies cannot survive if they are not profitable. The assessment of how profitable a company has been is based on a number of key ratios and criteria over a period of up to the past five years: 1 Return on total assets (ROA), 2 Return on equity (ROE), 3 Net profit margin, 4 Free cash flow, and 5 Operating profit margin or EBIT. Financial Strength Our Financial Strength rating represents an assessment of a company s ability to pay in the short and long term. The core of a company s financial strength is its balance sheet and cash flow. Even the greatest potential is of no benefit unless the balance sheet can cope with funding growth. The assessment of a company s financial strength is based on a number of key ratios and criteria: 1 Times-interest-coverage ratio, 2 Debt-to-equity ratio, 3 Quick ratio, 4 Current ratio, 5 Sales turnover, 6 Capital needs, 7 Cyclicality, and 8 Forthcoming binary events. 2

3 Table of contents Investment Case Summary... 4 A rapidly growing market... 4 The new... 4 Entering a phase of growth... 4 Valuation... 5 Company profile... 6 Background... 6 Products and services... 7 Consumer Credit... 7 Processing... 9 Credit Cards... 9 Real time bank transfers (RTB)... 9 Payment by digital wallets and other payment methods... 9 Business model and sales... 9 Team Ownership Market and opportunity A market with high structural growth Growing plethora of payment methods A complete menu of payment methods is crucial Increasing use of smart phones and tablets The future; Omnichanneling Fierce competition on the Internet The payment process as a sales tool Conclusion Competition Market opportunity Financial projections Revenues Costs Valuation Valuation on multiples DCF-valuation Summary Base Case Valuation Bear and Bull Case scenarios Appendix Competitors Team Summary Redeye Rating

4 Investment Case Summary E-commerce in Sweden has grown by ten times since 2013 and this structural growth shows no signs of abating A rapidly growing market is operating in a market with high structural growth. Purchasing of goods and services on the Internet is growing rapidly due to increasing penetration of connected devices, easy of use and increased security. E- commerce in Sweden has grown by ten times since 2013 and this structural growth shows no signs of abating. However, this evolving market is also exposed to changing consumer patterns driven by technological advancements. E-retailers are exposed to fierce competition on the Internet due to comparison sites, lack of physical distance ( just a click away ) and international competitors entering the domestic markets. s service enables e-retailers to receive a share of the proceeds from consumer credit and to keep the ownership of the customer To be successful on-line, the handling of payments is an important factor for e-retailers. To adress this, has dev eloped a consumer credit service which enables the e-retailers to grow sales and increase profit margins substantially. In short, s service is enabling e-retailers to receive a share of the proceeds from consumer credit and to keep the ownership of the customer. The latter is important since the payment process can be used as a sales tool and increase repeat sales. The new Consumer Credit offering, Invoice as a service, was launched and marketed towards existing and new clients from the beginning of 2015 The new Since Daniel Ekberger took the helm in February 2013 has transformed from a PSP into a Fin Tech company fully focused on consumer credit solutions. Mr Ekberger formed a new management team and a new strategy was developed. The first part of the business plan was to restructure the company, integrate the acquired consumer credit platform and finalise the new service offering. This was completed in 2014 and the new Consumer Credit offering, Invoice as a service, was launched and marketed towards existing and new clients from the beginning of The the proceeds from invoices and installments is several times higher than for direct payments Entering a phase of growth is currently implementing the consumer credit service for their largest client SJ, the national railway operator in Sweden. SJs clients will be able to pay by invoice or installments, through s platform, by the beginning of This will have considerable impact on revenues since the proceeds from invoices and installments is several times higher than for direct payments. is also conducting a number of pilot tests for other clients which could lead to additional revenue growth in

5 Valuation is currently allocating ample resources on the implementation and testing of the consumer credit platform for SJ. The project is of paramount importance to as it will be the first large assignment showing the success of the new business model. When can show the benefits of the revenue sharing model, in actual figures, this will obviously facilitate the sales process to new clients. is currently in discussions with a number of new clients which could lead to additional revenue growth in However, this initial valuation is based on a conservative scenario where revenue projections are based solely on the increase in consumer credit from s existing clients. The reason is that the implementation of the new platform for their 200 existing clients is expected to require full focus until the beginning of New potential clients might also want to wait and evaluate the outcome of the launch for SJ. However, as adds new clients this will be included in the revenue projections. Our estimated fair value is 1,20 SEK per share. This valuation is also underpinned by recent transactions in the industry. Our estimated fair value is 1,20 SEK per share. This cash based valuation is also underpinned by recent transactions in the industry. The bear and bull scenarios indicate a value of 0,74 SEK and 2,04 SEK respectively. Potential positive triggers, that would lead to increases in growth projections and company value, are announcements of contracts with new clients. One potential negative trigger lies in the fact that SJ is by far the largest among their 200 clients. The development of consumer credit from SJ will therefore have a large impact on future total revenues for. Risks on the downside would be if the implementation of SJs consumer credit platform is delayed or if the usage of consumer credit among SJs customers is lower than expected. Announcements of additional contracts from new, large clients would therefore be positive both in terms of higher revenue but also lower company risk. 5

6 Company profile Background was listed on the Nordic Growth Market in February 2004 When was founded in January 2000, the company was offering an electronic payment solution marketed under the brand name, the Wallet. The e-wallet was marketed to both e-retailers and consumers in Scandinavia and Northern Europe. To finance the marketing efforts, towards both e-retailers to enter agreements and consumers to use the e-wallet, was listed on the Nordic Growth Market in February In 2006, implemented a restructuring programme to decrease the cost base, narrow and intensify focus on target areas and increase sales. The restructuring was completed successfully in 2007 and transaction volumes more than doubled. In 2008, signed a contract with SJ. The agreement was pivotal since SJ is the large national railway operator in Sweden and was to handle all payment processing on-line. Through this agreement, broadened its service offering and became a fully-fledged Payment Service Provider (PSP), handling all sorts of payment methods for its clients. In 2011, received permission from the Swedish Financial Supervisory Authority to provide payment services in accordance with the Payment Services Act. In February 2013, with the hiring of Daniel Ekberger as new acting CEO, entered a new phase. Mr Ekberger initiated a comprehensive analysis of s business model and the on-line payment universe. Toghether with newly hired Robert Norling as Head of Sales and Marketing, a new value proposition and long term strategy was developed. This resulted in the new business plan that was implemented in 2014 and will run to A new value proposition and long term strategy was developed. The new business plan was implemented in 2014 and will run to The new business plan can basically be divided into three parts over three years; was the year of restructuring, integration of the new technical platform and finalisation of the new service offering, Invoice as a Service. - In 2015, the new service offering is launched and marketed towards existing and new clients is finally the year when the new service offering will generate revenues to both and its clients. This new service offering is presented below under Products and Services. 6

7 Products and services To emphasize the new focus on consumer credits, s new service offering is marketed under the brand name, Invoice as a Service. By adding the handling of invoices and installments, can now offer e-retailers a complete full-service payments solution. The full service payments solution includes everything the e-retailer needs in order to manage the entire payment operation in terms of payment processing, customer support, fraud detection, etc. Instead of just being an outsourced service the client is paying for, s offering will increase the profit for their client s system is easily integrated into the IT-structure of the client and the e-retailer can chose from either a tailor-made solution or a standard package solution. An important feature to s offering is that it is independent and that s clients keep the ownership of the consumer relation throughout the whole payment process. Another crucial difference is that and their clients enter a partnership in which the proceeds are shared. Instead of just being an outsourced service the client is paying for, s offering will increase the profit for their client. s new business proposition includes the following services within the business areas Consumer Credit and Processing. Consumer Credit Invoice as a Service In late 2013, purchased a technical platform for processing of invoices and installments. The platform was integrated and additional features were developed during 2014 and The technical platform is now fully operational and included in the full-service offering since the beginning of has already installed and is running the platform for a number of smaller clients. These first client agreements are used to fine tune the service offering and will be used as reference when marketing the benefits of the service to larger clients. In short, there is one important distinction between s and competitor s service offering to e-retailers. The competitors offer traditional factoring solutions where the e-retailers sell their invoice to the finance company. The consequence is that the e-retailer loses control of 7

8 offers a solution where the e-retailer can distribute their own invoice without investing in an expensive proprietary platform. their own customer and that most of the proceeds is gained by the finance company. on the other hand offers a solution where the e-retailer can distribute their own invoice without investing in an expensive proprietary platform. s offering contains the following value propositions; offers a partnership with the client where revenues are shared. a) Revenue sharing; Up to now e-retailers have only been able to sell their invoices at a cost, and basically the customer, to external suppliers who handle the payment process after the purchase is made. is instead offering a partnership with the client where revenues are shared. This is an attractive value proposition since this enables s clients to increase their profit margins substantially. The e-retailer also keeps the ownership of all accounts, transaction data and communication with their customer b) Customer ownership; In the partnership with, the e- retailer keeps the ownership of all accounts, transaction data and communication with the customer throughout the payment process. The e-retailer thereby receives an additional opportunity to increase revenues by strengthening the customer relationship, increase customer loyalty and drive additional sales through targeted individual offerings. In 2015, also entered an agreement with a Swedish bank which enable them to offer the e-retailers up to 100% financing of their invoicing. The business area Consumer Credit, and Invoice as a Service, is s main target area and in undivided focus for management and in marketing efforts. However, to remain as a full-service payment provider, will continue to offer processing of the payment methods below. 8

9 Processing Credit Cards handles card payments through its own payment gateway. Credit card payments will allow the e-retailer to receive payments from basically all over the world. If requested, can provide a dynamic currency conversion (DCC). This enables the e-retailer the opportunity to offer payment in the customer's local currency while giving the e-retailer revenues in the form of currency exchange supplements. The merchant gets paid in the transaction currency in the same way as for all other transactions. is PCI certified and has, together with external partners, developed a complete fraud prevention service that monitors transactions in real time around the clock. The system will help online merchants to choose which orders to be accepted or denied based on a large number of different parameters. Real time bank transfers (RTB) offers RTB Payments for most Nordic banks as well as the most commonly used European solutions for RTB. For the European market, offers payment processing through Europe's most communly used RTB solutions, ideal and Sofort, popular in countries such as Germany and Holland. For Swedish RTB payments, can offer, as the only supplier in the market, one agreement for all banks which means that the merchant just needs to keep an account in their own bank. Payment by digital wallets and other payment methods offers both Master Pass and PayPal, which enables payments with e-wallets in mobile phones and tablets. The revenues from consumer credits is expected to be the largest part of revenues and the dominant driver of future sales growth Business model and sales As of today, is receiving revenues from processing transactions acting as a PSP, Payment Service Provider, for Scandinavian e-retailers. However, with the new technical platform and the new service offering, the future revenue streams will come from two sources. It is important to note that the revenues from consumer credits is expected to be the largest part of revenues and the dominant driver of future sales growth. 1) Consumer Credit ( Pay Later ); shares the proceeds with the e-retailer from fees and interest coming from invoicing and installments. The revenue emanating from consumer credit is considerably higher than for payment processing. 2) Processing or PSP-operations ( Pay Now ); As a PSP, receives fees for handling and processing direct payment methods like credit cards, direct banking payments and e-wallets. 9

10 As of today, nearly 100% of revenues are derived from the PSPoperations. has a dedicated sales force that targets potential clients directly. Sales initiatives are also being made through partners. The duration of the sales process, from first contact to full implementation of the payment service, ranges from 6 up to 18 months. E-retailers could also be locked into several year contracts with other providers. Eg, Klarna usually locks their clients into 2-year contracts. The reason is that pilot testing, evaluation and internal decision making are lengthy processes for a function as vital as the handling of payments. However, once the decision is made, the implementation can be completed in a number of weeks for a standard package solution or in a few months for solutions with special requirements. Daniel Ekberger has carefully recruited people with the right competencies to fit the new strategy. Team Since Daniel Ekberger took over as CEO in Februay 2013, a completely new team has been formed at. Daniel Ekberger has carefully recruited people with the right competencies to fit the new strategy. Out of the 30 people employed today, very few remains from the previous organisation. Below is a brief presentation of the people in the new operational management team. A more comprehensive presentation is found in the appendix. Daniel Ekberger was hired as CEO in He has a proven leadership experience as CFO from high-growth companies in evolving industries, predominantly within sectors as IT, Internet and media. Before Mr. Ekberger held the position as CFO at AllTele and prior to that as CFO for Spotify and Atea. Robert Norling was hand picked in 2013 by the CEO to the position as Head of Sales and Marketing. Robert has previous management experience as MD of Kelly Services Sweden. He has also worked as Nordic Commercial Director for CFI Group and Business Unit Manger at Michael Page. Bjarne Ahlenius was hired shortly thereafter in 2013 as CFO. Bjarne has an extensive experience as CFO and Head of Business Control at a number of PE owned companies. Mr. Ahlenius started as auditor for KPMG and later worked with corporate transactions at Ernst & Young. Cyle Witruk, has been CTO at since Mr Witruk has a strong understanding of software and system design, and has worked as head developer and system architect at Payonova since Mr. Witruk has also developed advanced fraud and prescreening solutions that today 10

11 are a key aspect of s risk tools. Before Mr Witruk worked as a developer at edentity Media, Inc. The new operative management is showing high conviction by owning 14,8% of the company Ownership The new operative management is showing conviction to the new strategy and have acquired large positions in the company. CEO Daniel Ekberger, CFO Bjarne Ahlenius, Head of Sales Robert Norling and Cyle Witruk holds 4,9%, 4,4%, 4,2% and 1,3% respectively. Together management owns as much as 14,8% of the company. There are two programmes of outstanding options. One is related to the acquisition of the Consumer Credit platform and the other is an employee programme targeted towards key personnel. The former programme expires in 2017, the latter in 2018 and the total dilution amounts to 6,53%. Ownership as of 30th Sep 2015 No of shares % Försäkringsbolaget, Avanza Pension ,4% Catella Bank SA ,5% Sundqvist, Kjell-Åke ,0% Ekberger, Daniel* ,9% Nordnet Pensionsförsäkring AB ,9% Ancoria Insurance Public Ltd ,6% Ahlenius, Bjarne* ,4% Norling, Robert ,2% JP Morgan Bank Luxembourg S.A ,1% UBS Switzerland AG / Clients Account ,7% Ten largest shareholders ,7% Other ,3% Total ,0% * Adjusted for shares held through a legal entity is currently completing a rights issue. The subscription period in the rights issue runs from the 22nd of October to the 5th of November At full subscription will receive 21.3 msek before and 19,2 msek after issue costs. The rights issue is fully underwritten through subscription or underwriting commitments and the cash will be used to cover operating costs until positive cash flow is expected in the second half of The number of shares will amount to shares after completion of the rights issue. The table above is showing the ownership before the rights issue. 11

12 bn SEK Market and opportunity operates in a benign environment with robust, structural growth. This environment is also exposed to rapidly changing consumer patterns driven mainly by new technological advancements. To be successful, it is important to be positioned in the right way in order to reap the benefits of this growing market. The most important factors affecting s industry are described briefly below. e-commerce continues to grow at a high rate in s focus markets A market with high structural growth As can be seen in the table below, e-commerce in physical goods has grown by 10 times since 2003 in Sweden. Despite this tremendous historic growth, e-commerce continues to grow at a high rate in s focus markets. During the first quarter of 2015, Swedish sales in e-commerce increased by 19% compared to the same period last year. The forecast for the whole year is growth of around 17%, which would imply that sales in e-commerce for goods would reach a new high at 50 billion SEK in Sweden. E-commerce would then have increased its share of total retail sales to as much as 7% in Structural change in retail market ,9 50, ,9 6,8 9,0 14,3 17,7 20,4 22,1 25,0 27,7 31,6 37, Turnover in e-commerce in physical goods Source: Postnord The table above displays only the total market for physical goods that have been purchased on the Internet and delivered to the client. It does not include services (travels, hotels, concert tickets) or media (music, film, games, software, etc). The actual aggregated turn-over is more likely close to 100 bn SEK in Sweden in The growth in s market is coming both from pure online retailers (e-tailers) and traditional retailers that need to handle their payment processes from sales on-line (bricks-and-clicks) and the growth is not showing any signs of abating. 12

13 bn USD bn USD According to Forrester Research (graph below), European online retail sales will grow at a rate of 11% a year from 2013 up to The pace of growth will be the fastest, at 18% per year, in the less mature southern European countries, like Italy and Spain. European on-line retail sales ,9 206,7 227,5 248, , Source: Forrester Research According to emarketer, the fastest-growing category of online sales among nine major categories is in books, music and video. Sales in that category grew 18.5% in 2013 versus 16.9% for e-retail as a whole. However, the most interesting discovery when studying retail sales data is that web sales of web-only e-retailers surpassed web sales by bricks and clicks already in This gap has continued to widen as the web sales of web-only retailers grow at a much faster rate than retail chains. e-tailers grow faster ,8 105, ,8 42,9 56,4 55,7 73,4 71,5 64,6 64, Bricks-and-clicks e-tailers Source: Top500guide.com/Internetretailer.com 13

14 Online customers expect multiple payment options Growing plethora of payment methods Online customers expect multiple payment options. This challenges e- tailers and bricks-and-clicks to offer the right mix of payment solutions. Traditional challenges regarding security and ease of use are being overcome by enhancements in technologies, more user-friendly software and increasing smartphone penetration rates. The payment landscape is rapidly changing but, as can be seen in the diagram below, the majority of online retail payments in the Nordics in 2014 were made by card, bank transfers and invoice. The number of merchants accepting credit cards and digital payments has reached an all-time high as customers are getting more comfortable using their smartphone, tablet and other mobile devices for online purchases. Emerging mobile payment solutions, such as Apple Pay, AliPay and Google Wallet, are expected to continue to reinvent the payment market. However, it should be noted that all of these are card based solutions. A complete menu of payment methods is crucial To increase conversion rates (converting a visiting client to a purchasing client) is imperative for an e-retailer and losing a customer due to poor payment processing could be detrimental for sales, margins and the business as a whole. The most common reason for cancelling a purchase is that the e-retailer didnt provide the desired payment method Missing payment method most common reason to discontinue purchase Didn't offer desired payment method Complicated registration Unclear terms Processing of payment 28% 28% 30% 34% Technical difficulties 24% Insufficient product info Low trust 19% 20% Not possible to collect product 4% 0% 5% 10% 15% 20% 25% 30% 35% (%) Reasons to discontinue a purchase Source: DIBS 14

15 As shown in the table above, the most common reason for cancelling a purchase is that the e-retailer didnt provide the desired payment method. To offer a complete, fully functional and easy-of-use menu of payment methods is therefore of vital importance to s clients. Increasing use of smart phones and tablets Purchases by smartphone or tablet is increasing 45% 40% 35% 40% 42% 30% 28% 25% 20% 15% 16% 10% 5% 0% (%) Made a purchase with smartphone or tablet the last 6 months Source: DIBS The major driver behind the rapid growth in mobile payments is the increasing penetration in smartphones (73%) and tablets (53%) but also the customers desire for convenience. Customers, as stated earlier, appreciate the ability to shop whenever and wherever they want. This increase is positive for since payment by invoice is growing when using a mobile device (graph below). Purchases by smartphone or tablet is increasing Payment by invoice is growing when using a mobile device 80% 70% 60% 67% 71% 74% 50% 40% 30% 26% 30% 24% 32% 34% % 10% 14% 8% 13% 12% % Card Bank Transfer Invoice e-wallet (%) Payment method via smart phone or tablet for purchases during last 6 months Source: DIBS The future; Omnichanneling On-line sales channels have historically been treated as a separate channel without integration with the traditional bricks-and-mortar business model (see below). However, the rapid development of the e-commerce industry has made traditional retailers move into the online market. Conversely, several pure-play e-tailers are evaluating the benefits of adding a physical presence such as showrooms and pop-up stores to respond to the changing 15

16 marketplace and to meet growing customer demands. These multi-channel operations are now moving into the next phase of the evolution, omnichanneling. The evolution of the retail industry Source: Deloitte/Redeye When large retailers start to integrate their payment processes that could increase s potential market massively Omni-channelling is about creating a seamless solution for both the customer experience and the companies internal processes. Wether the customers are in a physical store, on a computer or on a mobile device, they require the same service levels, payment options and access to information throughout the entire shopping experience. This is important since consumers who are active in several channels tend to spend more than single-channel consumers. It is therefore of increasing importance for the retailer to create and keep the customer in a coherent multi-channel environment where branding and service builds loyalty and synchronised payment processes increase conversion rates. Today, omni-channeling is in its infancy but when large retailers start to integrate their payment processing from various channels that could increase s potential market massively. Fierce competition on the Internet The high use of comparison sites (see below) and the absence of physical distance on the Internet ( just a click away ), have intensified competition among s clients. High use of comparison sites lead to pricing pressure Search engines 73% Comparison sites 58% Friends and family 48% Visit physical stores 43% Newspaper ads 16% Catalog 10% campaigns 7% 0% 10% 20% 30% 40% 50% 60% 70% 80% (%) What channels are most important to you as a customer when shopping on-line Source; Deloitte "Omni-channel retail; A Deloitte Point of View " 16

17 This has led to high pressure on pricing and s clients are scrutinizing every part of their business operation to find ways to decrease costs and increase margins. Obviously, the payment process is an important factor both in terms of direct costs as a percentage of turnover and indirect costs through conversion rates. As can be seen in the table below, the competitive environment has compressed average operating margins for e- retailers down to single-digits. The transaction cost as a percentage of turnover is almost at the same magnitude which shows that decreasing the cost for payment processing can have a huge impact on total margins. E-tailer Key Performance Indicators (KPIs) Entry Level Average Leading Total payment Solution and processing costs Transaction cost as a % of turnover 4,1% 1,4% 0,9% The cost for payment processing has a large impact on total margins Operational Operating margin -3,0% 3,0% 6,0% Gross margin 15% 30% 45% Repeat customer rate 17% 27% 52% % of sales from repeat customers 24% 41% 59% Average Order Value (AOV) (SEK) AOV Repeat Customer (SEK) Marketing Marketing cost 40% 12% 8% Site conversion rate 0,1% 2,3% 4,0% Shopping car abandonment rate 92% 54% 27% Source; Deloitte "Omni-channel retail; A Deloitte Point of View " Invoicing and installments can be a powerful tool to entice repeat purchases and build the e-retailers brand The payment process as a sales tool The marketing cost for a new customer is high and s clients need to turn these first-time customers into repeat customers to increase sales and margins. A powerful tool to entice repeat purchasing is through the payment process of invoicing and installments. This is why is offering its clients a white-label solution where they can up-sell the customer and build loyalty through branding. Eg, a payment in installments over a two-year period gives the retailer 24 opportunities to market their products and services through the invoice. It is estimated that the retailer gets approximately 30 seconds of undivided attention per invoice which amounts to as much as 12 minutes of advertising time over the whole payment period. This marketing opportunity is higly valuable as it can increase sales and lower costs for advertising in other media. Conclusion The evolving industry trends described above were important parameters when s management developed their new strategy. Even though the underlying market is showing high and stable growth it is important to offer e-retailers the right business proposition. In a world where e-retailers are exposed to tough competition and tight margins, Invoice as a service should be attractive since they will increase 17

18 margins through revenue sharing and keep the valuable ownership of the client. Competition There is a large amount of aspirational competitors in the Nordic market offering payment processing in different segments of the market. They are often dominant players in their respective segments. Klarna in invoicing, Dibs/Nets in on-line processing and credit cards terminals, Collector in financing, but they are currently broadening their service to include all payment methods. A brief description of potential competitors is given in the appendix. When assessing the competition in s new focus area, the consumer credit segment, it is important to look at the difference in s business proposition versus competitors. From the e-retailers perspective it is optimal to; a) Receive revenues from the consumer credits service b) Keep the ownership of the client and increase repeat sales When using a traditional factoring provider the e- retailers lose the potential revenue emanating from the payment process Large retailers like H&M and Qliro have the resources to finance, develop and operate their own proprietary payment platform. Medium and small e- retailers have less resources and have no other choice than signing up with an external provider. This is not optimal because, when using a traditional factoring provider (eg Klarna, Collector, Svea), the e-retailers lose the potential revenue emanating from the payment process. As shown in the table below, is currently the only independent full-service provider offering the benefits of a proprietary platform but without the need for IT development, customer support, risk mitigation, etc. E-retailers prefer the benefits of a proprietary platform Source: From the e-retailers perspective, it is also less appealing to use traditional factoring providers like Klarna and Qliro since they lose the ownership of the customer once the payment is completed. They thereby lose the opportunity to increase loyalty to their brand and to entice repeat purchases by marketing through the invoice. Klarna, with approximately 80-90% of the Swedish on-line consumer credit market, is the main competitor to s new service offering. As 18

19 described above, s offering should be more appealing to e-retailers but Klarna usually locks their clients into multi-year contracts. Also, Klarna could start sharing revenues if they think constitutes a big threat to their client base. However, this would imply a change of their entire business model and is a long-term strategic decision with a big impact on their company value. As long as is perceived as a small, local competitor with limited effects on total sales, Klarna should keep its focus on the international expansion. The integration of recently acquired Sofort in Germany coupled with the expansion in larger markets such as UK/US could therefore leave a window for growth for s service offering. Qliro, the second largest player in the market, also offers their external merchants a traditional factoring solution. However, Qliro has a competitive disadvantage since Qliro is part of a group of on-line retailers. External clients could feel uncomfortable using a payment provider that is co-operating with competitors. Swedbank predicts that on-line sales in Sweden will reach a turnover of 300 bn SEK in 2024 Market opportunity It is difficult to make predictions about a market that is in constant change due to technological advancements and changing consumer behaviour. In s Q2-report there is a reference to a study where Swedbank predicts that on-line sales in Sweden will reach a turnover of 300 bn SEK in To make a rough assessment of s potential market in five years from now, 2020, we could make the following assumptions; - In 2015, total on-line sales amount to roughly 100 bn SEK in Sweden. 50 bn SEK from physical goods and 50 bn SEK from services (travel, hotels, tickets) and media (music, film, games, software). - In 2015, growth is expected to be around 17%. For conservative reasons, this growth is phased down to 12% in Today, roughly 1/3 of on-line purchases of goods are paid for by invoice and installments in Sweden. When paying for services and media the usage of consumer credit is lower, around 20%. In this model we assume that the current average remains at 26%. This is conservative since factors as real-time access to virtual credit space and improving consumer experiences indicate higher usage of consumer credit in the future. - A growth opportunity for consumer credits is also coming from the traditional bricks and mortar segment. Companies operating in the white and brown goods sectors have successfully offered payment by invoice and installments for many years. Payments by consumer credit for computers, TVs, ovens and fridges is an important part of their business model. The total usage of consumer credits in off-line retail is currently around 3%. This rate is assumed to increase to 6% in five years since the option of paying by credit is, at an increasing 19

20 rate, being offered in the bricks and mortar segment. Total Swedish off-line retail sales is assumed to continue to grow at the historical average of 3%. - There are another segments with high potential for consumer credits. Blended goods and services that would be well suited for invoicing and installments are high unexpected expenses like car services, medical and dental treatment, house repair, etc. For conservative reasons, this will not be included in the model. - Finally, revenue from consumer credits is considerably higher than from traditional payment processing (credit cards, RTB, etc). In this model, revenue from consumer credit is assumed to be 14% before revenue sharing. The assumptions are summarised in the table below. This indicates a total adressable market for handling invoices and installments of around 13 bn SEK, on-line and off-line, in A potential adressable market for handling invoices and installments of 13 bn SEK, on-line and off-line, in 2020 adressable market Total on-line sales Growth (%) 17% 16% 15% 14% 13% 12% Consumer credit % of on-line sales 26% 26% 26% 26% 26% 26% Total consumer credit market (bn SEK) Total off-line retail sales Growth (%) 3% 3% 3% 3% 3% 3% Consumer credit % of off-line sales 3,0% 3,6% 4,2% 4,8% 5,4% 6,0% Total consumer credit market (bn SEK) Total Sales with Consumer Credit (bn SEK) Consumer Credit Revenue* (%) 14% 14% 14% 14% 14% Adressable Market * (bn SEK) 7,6 9,0 10,4 11,9 13,4 * Before revenue sharing However, from s perspective, the market can be divided into one adressable and one non-adressable group; The large players; Large, global companies (bricks and mortars) that have developed an on-line presence which, with the huge resources of these companies, has grown to big players on-line as well (bricks and clicks). Examples of companies that are large enough to develop and operate their own payment processes are H&M and Qliro. The rest; Companies of various sizes that have decided to outsource payment processing as they perceive that this will be more cost efficient. An external provider will deliver updated and stream-lined payment solutions and this will enable them to focus on their core business. 20

21 Outsourced platform Proporietary Platform Market segments is targeting large to mid sized companies with high online volumes H&M Qliro Klarna / Svea / Collector / Avarda, etc Klarna / Svea / Collector / Avarda, etc Source: Within the adressable market, is targeting large to mid sized companies with high on-line volumes. The implementation and operational costs are almost at par for a large and mid sized company as for a small company so the turnover has to be of a certain magnitude to be economically viable. Within this segment, has won contracts and currently operate integrated payment solutions for clients like SJ, Arlanda Express, Systembolaget, Mio, Resia and Västtrafik. In total, has around 200 clients of which SJ is by far the largest. s management has made a rough assessment of the potential market for their consumer credit service five years from now. In 2020, e- commerce sales could amount to roughly 42 bnsek from potential, adressable clients within the large, mid and small company segments respectively. If we make the assumption that approximately 1/3 of all purchases will be paid for by consumer credit at a value of 14% this would give us the following potential market value for each segment. Business potential; Swedish consumer credit market Source: Redeye/ In the large company segment, with turnovers above 500 msek, sees roughly 30 addressable clients with an aggregated turnover of 42 bn 21

22 SEK and a potential market value of around 2000 msek. If we assume that gets 20% of this segment, ie six large clients, that would imply 400 msek in annual revenue. In the mid market segment there are roughly 300 addressable clients with a total market value of 2000 msek. A 10% market share, ie 30 mid sized clients, would render 200 msek in annual revenue. As mentioned above, companies with on-line sales below 50 msek are not targeted by at this point in time. If this scenario is realised in 2020 that would imply a massive ramp-up in sales from the 26 msek reported in 2014 Through Invoice as a Service, shares the revenue from consumer credit with their clients. If we assume that 50% of revenues are kept by that would imply an annual turnover of 300 msek. If this scenario is realised in 2020, that would imply a massive ramp-up in sales from the 26 msek reported in The total adressable market according to the assumptions above added up to around 13 bn SEK. That would imply a market share of roughly 5% for in 2020 (the annual turnover is 600 msek before revenue sharing). 22

23 Financial projections Revenues The reason for launching Invoice as a service is the much higher revenue potential in consumer credits compared to processing direct payments; - When handling a direct payment by card, bank or e-wallet the revenue for the payment operator will only come from one source, a transaction fee, which is charged the on-line retailer. - When the consumer is chosing to pay by invoice, the payment operator charges an invoice fee and can also receive potential additional fees for reminders for over-due payments and potential revenue for interest (depending on the conditions set by the e- retailer). - When the consumer choses to pay by installments, the payment operator will receive multiple invoice fees, potential interest and higher probability to receive fees for over-due payments. There are bascially four sources of revenue (invoice fee, reminders fee, setup fee for installments and interest) and the size of these fees vary depending on the conditions set by the e-retailer. An industry average per processed transaction is therefore difficult to calculate. However, industry participants are talking about a rough estimate of 20 SEK on average for invoice and 200 SEK in total for installments. The table below illustrates how the revenues are multiplied when handling purchases with invoice and installments compared to processing direct payments. Eg, the difference in revenue from handling a transaction with multiple installments versus a credit card transaction is a factor of 100. This clearly shows why investing in a consumer credit platform makes sense for. However, there is reason to believe that the average transaction revenue will move down since fees are used to increase sales (marketing campaigns with no interest, no set-up fee, etc). The difference in revenue from handling a transaction with multiple installments versus a credit card transaction is a factor of 100 Payment Method Transaction fee Invoice Fee Reminder Fee Interest Set-up Fee Average Rev Rev enhancing Pay Now Card, RTB, e-wallet Yes No No No No 2 SEK 1 Pay Later Invoice Yes Yes Yes No No 20 SEK 10 Installments Yes Several Yes Yes Yes 200 SEK 100 An obvious risk with Pay Later solutions is that the customer fails to fullfill its payment obligation. However, in Scandinavia, the rate of nonperforming credit is below 1% for invoice and installments. In addition, has an advanced system to assess credit risk. Phasing and distribution of payment methods SJ is by far the largest client among s 200 clients. The agreement with SJ will therefore have a large impact on the future total revenues for 23

24 . The contract was signed on the 15th of April 2015 and the implementation started shortly after. Due to the size of SJs operations the implementation is expected to last through out SJs clients will therefore be able to pay by invoice or installements, through s platform, by the beginning of is currently conducting a number of pilot tests for other existing clients. According to management the outcome has been positive and the implemenation periods are expected to be shorter, compared to SJ, from the start of an agreement. With the new service offering, is focusing on increasing revenues from consumer credit in their existing client base. The question is therefore how this transition and phasing of transactions, from 100% direct payment processing to consumer credit, will look like. Assumptions need to be made concerning; - duration of transition (from start of implementation to mature usage by end customers) - final distribution of payment methods (share of consumer credit) As showed in the market description above, the Swedish consumer on average choses to pay by consumer credit in 1/3 of transactions. Data also suggest that within consumer credit payments, roughly 75% chose to pay by invoice and 25% by installments. However, when paying for travel there is a higher tendency to pay directly rather than by invoice (in comparison with clothing where the customer prefers to try the product before paying). On the other hand, the larger the ticket size the higher the probability to pay by invoice and installments. Industry data shows that roughly 20% of consumers chose to pay by invoice or installments for travels on the Internet. In my model I have therefore used the following assumptions; Final distribution of payment methods; Direct processing 80%, Invoice 15%, Installments 5% The reason for the low level of consumer credit transactions (20%) is that SJ constitues the majority of s payment transactions and that s other clients, Arlanda Express, Resia and Västtrafik, also falls into this category. Duration; 1,5 year from start of implementation to full usage of consumer credit option The usage of consumer credit is assumed to be slower in the start but increase at a higher pace at the end of 2016 Once again, SJ is the major client and the consumer credit option will be fully operational in the beginning of The roll-out is assumed to be slower in the start but increase at a higher pace at the end of 2016 where it reaches full usage. The adoption by s remaining, smaller clients is assumed to follow, on average, roughly the same trajectory. 24