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Usio Buffeted By Voyager (NASDAQ:USIO)

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The shares of Usio (NASDAQ:USIO) got smashed, like so many of our little growth stocks (and numerous large-cap growth stocks as well). Given that Q1 figures were very good (35% organic growth) albeit, with a (temporary) hit to margins, this initially seemed overdone to us.

USIO Chart

FinViz

Apart from the headwind from the markets and interest rates, three worries seem to have engulfed investors with regard to Usio:

  • Worries about cash flows and cash levels.
  • Worries about the crypto crash.
  • Worries about a possible huge turn in the economy.

With respect to cash, the company actually managed to increase its cash position by $300K to $7.6M in a quarter in which they had additional expenses and investments, which produced a hit to gross margin (taking a 220bp hit).

But management expects gross margin to recover in the remaining three quarters, and such is the confidence that the board just approved a $4M share buyback program.

The economic risk, but management argues that there are segments that would perform better in an economic downturn, like consumer lending, short-term loans, and guaranteed income programs. How recession-proof the company is remains very much to be seen though.

Crypto risk

There is indeed a crypto crash happening, which at first sight might seem very worrying for the company, as they just printed a host of Voyager prepaid cards for $650K revenue at cost. However:

  • Crypto constitutes less than 10% of revenue (although Q2 has difficult comps as Q2/21 was the height of the crypto boom).
  • Crypto revenues for Usio are not necessarily correlated with the price of crypto, what matters is volatility.

However, this is not all. Recently it emerged that their crypto partner Voyager is in trouble, from Seeking Alpha:

Voyager Digital (OTCQX:VYGVF) shares are dropping over 60% in Wednesday morning trading to its lowest since June 2020 after revealing loan exposure of more than $660M to struggling crypto hedge fund Three Arrows Capital.

The crypto broker said it may issue a “notice of default” to 3AC if it fails to make a loan repayment.

Moreover, Voyager Digital disclosed that its exposure to 3AC, which has failed to meet margin calls over the past week as its crypto wagers turned sour amid turbulent market conditions, consists $350M in USD Coin (USDC-USD), a stablecoin pegged to the U.S. dollar, and 15,250 bitcoins (BTC-USD) ($314.2M) for a total of $664.2M.

That’s not good, and management didn’t really respond to questions about its risk management (hedges, collateralization, etc.). Voyager limited customer withdrawals to $10K, so there is at least some ACH transaction processing income for Usio, but that Voyager debit card isn’t likely to fly anytime soon.

Voyager isn’t dead though, at least not yet as (from CNBC):

Billionaire crypto exchange boss Sam Bankman-Fried has signed deals to bail out two firms in as many weeks: BlockFi, a quasi-bank, and Voyager Digital, a digital asset brokerage… Last week, Voyager Digital said Alameda Research, Bankman-Fried’s quantitative research firm, would provide it with $500 million in financing. The deal consists of a $200 million credit line of cash and USDC stablecoins, as well as a separate 15,000-bitcoin revolving facility worth approximately $300 million at current prices.

It remains to be seen if Voyager recovers from this situation, but for now, Usio won’t escape some collateral damage with their Voyager cards not going anywhere anytime soon and some hit to their ACH business, which brings in the highest margins.

It’s not too bad as crypto was less than 10% of their business in Q1, but it was a pretty important growth vector the past year and a half or so.

Financials

  • Revenues +35% to $18.1M despite weakness in crypto.
  • ACH segment Q1 +25% to $3.8M; within the segment: ACH +17%, returned checks +32%, PINless debit product +57%, management is optimistic for rebound in H2.
  • Credit Card +18% to $6.8M; PayFac transaction volume +67%.
  • Prepaid +212% to $2.8M, total dollars loaded to a record $69M+, which is a leading indicator. Growth continues to be driven by the company’s position as the leader in supporting various fund disbursement needs of governmental, municipal, charitable and related entities, servicing 200 programs that could be 300 by year-end.
  • Output Solutions +25% to $4.7M.
  • Adjusted EBITDA was -$286K versus $247K a year ago.
  • Net loss $1.6M versus -$720K in Q1/21.

PayFac remains a main growth engine. The competition mostly consists of aggregators of services from different vendors and/or offer white label generic solutions from a larger processor, so they are not PayFac experts and don’t own and control their own proprietary technology.

Therefore, these are not flexible and offer little or no customization or modification. Usio does offer full customization and performs all services in-house. The future looks bright (Q1CC):

Once the ISV becomes aware of this, they look for someone like Usio that develops and supports its own technology and can provide all the services they need. Automated underwriting and onboarding are one example, but one that’s extremely important to boarding customers in mass and generating revenue in short order for the ISVs. We expect that many ISVs who were early to jump on the PayFac bandwagon will now be rethinking of strategy and be looking for someone with a better solution and who has the resources to meet their needs, which we think will open a whole new market for us.

Management created a win-win situation for the ISVs and PayFac by suggesting a mandate for new merchants of individual ISVs, obliging them to process through PayFac. This seems to be paying off, improving their economics as well as those for PayFac.

There are two different cards for Voyager (their crypto platform partner), the Voyager prepaid card and the Voyager debit card, which have been introduced to a select number of customers already. The company generates several different revenue streams from Voyager:

  • ACH processing
  • Breakage; sharing a ‘larger-than-normal proportion’ of unused card balances at expiration
  • Call center use per minute, changing the call center from a cost to a revenue-generating center.

The spectacular growth in prepaid continues to be driven by the company’s position as the leader in supporting various fund disbursement needs of governmental, municipal, charitable, and related entities, servicing 200 programs that could be 300 by year-end.

The company is very well-positioned in programs like the Mastercard’s City Possible program and the Mastercard Civic Assist platform.

Prepaid spoilage of up to $20M is expected from ending Covid programs starting in Q3 with much more favorable economics. Inactivity fee revenue from Sept from NYC vaccine incentive program (for which they also increased their call center the last 5 months).

While many of the Covid-related programs are coming to an end, new programs make more than up for these and have better economics. That is, they are longer duration programs, contain larger disbursements, and have fewer participants (reducing costs).

The growth in Output Solutions (+25%) came as the company instigated a dedicated sales organization, which it lacked.

The company has recently been introducing new products:

  • Consumer Choice (funds disbursement solution).
  • Buy Now Pay Later POS lending solution offers flexible installments and has already met considerable interest from clients like dentist practices and veterinarians.

Guidance

Revenue +18%-20%, positive adj cash flow and adj EBITDA for FY22, improving through the quarters with OpEx roughly $3.6M.

From the Q1CC:

guidance is conditioned on enthusiastic fintech lending and cryptocurrency industries as well as no appreciable deterioration in economic conditions, we feel very strongly that we will be able to achieve our objectives this year.

With the Voyager headwind and possible recession, we think it’s likely that guidance will be lowered considerably.

Margins

Usio gross profit margin and operating margin
Data by YCharts

Q1 margins were depressed temporary as a result of:

  • $650K Voyager card print at zero margin.
  • Investing in call centers for the NYC vaccine and upcoming Voyager card.
  • $200K non-recurring expense.

Management believes (Q1CC):

we feel that these investments were both wise and affordable given our very low customer acquisition costs that create tremendous leverage in our model

Selling, general and administrative costs were $3.8M versus $2.7M a year ago, but beginning Q2, management expects to see margins increase and overhead remain relatively flat.

Margins will rise as the business model is very scalable, investments in the Voyager card and call centers are behind us and the revenue from Voyager and inactivity fees from NYC vaccine incentive cards start coming in.

The company can expect inactivity fee revenue from Sept from NYC vaccine incentive program for which they also increased their call center in the last 5 months.

Beginning Q2, we expect to see margins increase and overhead to remain relatively flat.

Cash

Despite the (temporary) margin contraction and net loss, the company actually managed a positive adjusted operating cash flow of $500K and its cash balance increased by $300K to $7.6M, so there isn’t any need for additional financing.

Given the fact that the board approved a $4M share buyback program, they don’t seem to worry at all about cash levels either.

Valuation

Usio EV to revenues
Data by YCharts

With a market cap of $63M, the shares sell at an EV/S below 1x, which is almost at pandemic lows. Analysts still expect losses (of $0.13 per share) this year to rise to just above breakeven ($0.01) per share next year.

Conclusion

We think that much of the problems (crypto collapse, US recession) are priced in already, although we don’t see any immediate reason to jump in as guidance will likely be lowered.

Longer-term, the company has two significant growth engines in PayFac and Prepaid, and these should continue to flourish for the foreseeable future, even if the rest of the business takes a hit from a worsening economy and/or crypto retreat.

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