Kaspi - Central Asian Super App in the Making
Kaspi (LSE: KSPI) is a technology and financial services company from Kazakhstan dominating the fields of digital finance and e-commerce. Through its Super App, Kaspi has developed a sticky ecosystem offering a wide range of products and services with possibly one of the strongest network effects I've come across. One can think of the company as a combination of Amazon, PayPal and a bank with an application that shares characteristics similar to WeChat. Kaspi has already taken over most of Kazakhstan in a relatively short amount of time, but its ambitions lie beyond the borders with the aim of becoming the Super App in Central Asia and the Caucasus. I'm impressed by the company and management team, however Kaspi remains an extremely risky investment due to typical emerging market risks. Despite that, I currently see the stock as undervalued and started a position in Kaspi.
Kaspi's Business Model
Kaspi's business model can be divided into three platforms that serve both consumers and merchants with their day-to-day needs:
Payments
Marketplace
Fintech
The payments platform is very similar to the digital wallet services offered by companies, such as PayPal and Square, with the platform enabling both consumers and merchants to send and receive digital payments. Services include debit cards (Kaspi Gold), P2P, QR, internet and mobile payments. In addition to that, Kaspi introduced Bill Payments, which enables both consumers and merchants to pay for household needs and invoices, such as utilities, internet, insurances etc. The service is furthermore integrated with the state's tax database allowing for instant settlements of accrued taxes. Furthermore, Kaspi launched its own point-of-sale (POS) solutions in 2019, enabling merchants to also process in-store payments through Kaspi. The development of Kaspi's POS solutions has been astonishing, growing from a 9% market share in Q1 2020 to 46% (!) in Q1 2021.
However, in my opinion, the most notable development Kaspi has achieved in the payments space is the establishment of the proprietary payment network. Kaspi launched this network mid-2019, basically eliminating the reliance on third-party payment processors such as Visa and MasterCard. The company disrupted the payments value chain by providing end-to-end payment functionalities between consumers and merchants through the Super App and QR technology. This has led to Kaspi taking significant market share from both Visa and MasterCard, becoming the payment processing leader in Kazakhstan. The network furthermore reduces transaction costs and allows Kaspi to fully control the customer experience and enhance their data collection.
Revenues from the payment platform are for the majority derived from membership and transaction fees (73% of payment revenues). The key KPI to look at here is the revenue-generating total payment volume (RTPV), which averages a take rate of approximately 1.3%. Take rates are the highest for other bankcards (2.3%), followed by Kaspi Gold debit cards (1.7%) and Kaspi QR through the Super App (0.95%). Due to an increasing shift to Kaspi's own solutions, take rates can be expected to decline slightly over time. P2P transfers are only monetized for external transactions, while revenues are also earned through interest from cash balances (27% of payments revenues). The amount of active consumers and merchants on the payment platform has grown explosively over the recent years, leading to strong growth rates in transactions and RTPV (157% 3-year CAGR). The average amount of monthly transactions per active consumer also nearly doubled between 2019 and 2020 (14.8 to 28).
Kaspi's second segment is the marketplace platform, which connects merchants and consumers to buy a large variety of products and services. Electronics comprise the majority of sold products, however Kaspi is experiencing a shift towards other product segments, such as clothing, cars and groceries. The platform is very comparable to those of other e-commerce companies, such as Amazon, Shopee etc. Kaspi aids its merchants with payment options, including buy-now-pay-later (BNPL), fulfillment through delivery services and marketing. Revenues from the marketplace platform are derived from take rates on Gross Merchant Value (GMV), delivery fees (6% paid), Kaspi Travel (online travel business) and subsidiaries in Azerbaijan (Turbo.az, Tap.az and Bina.az).
Kaspi's take rates have experienced a positive development over the recent years, improving from 4.6% in 2017 to 7.7% in 2020 and 8.2% in Q1 2021. This is driven by the aforementioned shift in sales, promotional campaigns, logistics monetization and marketing services. GMV has compounded at a 46% CAGR since 2017 reaching $617M in 2020, while the retention rate of active merchants has consistently been >99%. The GMV growth is mainly derived from strong increases in e-commerce and m-commerce (mobile), whereas it has been decreased due to a drop in in-store GMV. Kaspi also offers in-store shopping assistance at large electronics retailers, but while this service made up 40% of GMV in June 2019, it represents only around 1% today.
Kaspi also launched an event called Juma, which can be compared to Black Friday in the U.S. or Singles Day in China. This event is held twice a year, once in the summer and autumn, and comprised 14% of GMV in 2019. GMV per consumer is also shown to approximately double after three years of the first purchase, demonstrating extended growth potential within already active consumers. This growth in GMV per consumer is further supported by the strong growth rates in the merchant base, currently growing faster than the consumer base.
The third and final segment is the fintech platform, through which Kaspi offers its digital finance products. Revenues are mainly derived from interest fees with approximately half coming from the BPNL service, which is integrated with the marketplace platform. Similar to competitors like Afterpay and Klarna, BPNL is offered interest free for the first three months and is usually provided with terms up to 24 months. Kaspi furthermore offers general purpose loans with maturity dates up to 48 months. The average term usually lasts 7 months with loan amounts for BPNL averaging $260 and $500 for the general purpose loans.
The fintech furthermore constitutes of the Kaspi Red Shopping Club subscriptions, which allows for interest free installments up to three months and other shopping bonuses. The platform also offers instant deposits, car financing and merchant finance. The latter offers merchants additional working capital with a maximum facility drawdown of 20% of GMV or TPV. Similar to Square Capital, the loans are automatically repaid from the daily GMV or TPV of merchants through Kaspi. Merchant Finance has only recently been launched, hence as of Q1 2021 it only made up 5% of TPV, but it's growing rapidly.
Kaspi has developed a credit decision making process and scoring model that extensively utilizes risk algorithms and predictive models to estimate the credit risk of its consumers. These models are also fueled by the data insights retrieved from these consumers on both the payments and marketplace platforms. Moreover, external data from credit bureaus are supplemented to enable better quality credit decisions. Through this, the system makes 99.9% of loan approval decisions within six seconds. Kaspi also runs a large team of data scientists (>155) to consistently modify and improve the models. All of this has resulted into drops over the recent years in delinquency and payment default rates (apart from a Q2 2020 bump due to Covid-19). 97% of loans that are less than 90 days overdue are collected, while this is 40% of those after 90 days, however this figure has been steadily improving with the quarters (see 90+ collection vintages).
The interests yields Kaspi collects on its loans are on average around 32%, which appear very high but it should be noted that Kazakhstan's treasury yield lies around 9%. Nevertheless, it can be seen as a positive development that a larger part of Kaspi's income becomes derived from the payments and marketplace platforms, since they carry substantially lower risks. While the fintech platform compromised 71% of net income in 2019, it is expected to decrease to approximately 49% in 2021. I expect this trend to continue in the upcoming years, making Kaspi less like a bank and more like a technology company.
Industries and Market Dominance
I assume everyone by now is quite aware of the tremendous growth opportunities within the e-commerce and fintech industries, so I won't bother elaborating on that. However, it is interesting to take a closer look at Kaspi's positioning with regards to the three platforms. Kaspi has managed to capture significant market share in its target markets within a relatively short amount of time.
Firstly, digital payments in Kazakhstan have grown tremendously over the recent years, but accounted for only 31% of all consumer transactions in 2019. Comparing this with other emerging market countries such as China (77%), Brazil (70%) and Russia (51%) it becomes clear that there's still a significant transition to cashless payments left. Similar to what WeChat did in China, Kaspi is essentially replacing cash in Kazakhstan, hence positioned favorably for this trend. Kaspi was estimated to have a 65% market share of total cashless payments and digital transactions in Kazakhstan in 2019, up from only 15% in 2017. Kaspi furthermore has gained significant market share in the POS and network spaces already mentioned before.
Secondly, Kaspi has been the largest online retailer in Kazakhstan since 2017. Kaspi's e-commerce GMV was estimated at a 46% market share in 2019, up from 23% in 2017. The total GMV of the marketplace platform was equivalent to 5.5% of Kazakhstan's total retail trade in 2019. E-commerce still has lots of room to grow in Kazakhstan, as online retail trade only comprised 3.4% of the total retail market in 2019.
Third and lastly, Kaspi is estimated to have a 32% market share with regards to consumer loans, while also having 18% market share within retail deposits. Kaspi also sees great growth opportunities in this industry, as financial services for consumers still have lower penetration rates in Kazakhstan (6.7% of GDP) than other countries like China (18.1%), Brazil (8.7%) and Russia (8.5%). Finally from a macro perspective, it is also interesting to know that Kazakhstan's real GDP growth is expected to be around 4% for the upcoming years.
All in all, Kaspi is extremely well-positioned and I believe the following quote from the CEO provides a great summarized description:
"The combination of our scale with consumers and merchants, joined by our own proprietary payment network puts Kaspi.kz in a completely unique playing field to capture the multi-year structural growth opportunity offered by digitalisation in Kazakhstan and the broader region. We have many plans to continue building on our success both this year and over the medium-term and find it difficult to be anything other than extremely optimistic about the future." - Mikhail Lomtadze, CEO and co-founder of Kaspi.kz
Kaspi's Competitive Edge
Kaspi mainly competes with local (retail) banks and other (global) platforms/startups (e.g. Qiwi). In my opinion it is quite clear what Kaspi's main competitive edge is, namely network effects. Kaspi's Super App functions as a single gateway to all the services they offer and currently has 5.4M daily active users (DAU), +98% YoY. Comparing this with the 10M monthly active users (MAU) in Q1 2021, Kaspi has one of the highest conversion rates (54% in Q1 2021) signalling extremely high user engagements levels.
Through its Super App, Kaspi can quickly launch new services and dominate markets. A prominent example of this is the launch of Kaspi travel, which within four months of launch already managed to capture 20% (!) of the total market share. The Super App allows for easy consumer adoption, which drives both strong synergies between the platforms and explosive growth for new services.
The Super App also induces a flywheel effect by establishing high retention rates for both consumers and merchants, which consequently attracts more consumers and merchants, followed again by higher retention rates and so on. This together with the offering of high-quality services provides Kaspi with a leading brand in Kazakhstan, which becomes evident from their Net Promoter Score (NPS) of 87.3 (e-commerce industry has an average of 40). NPS is an extremely important metric for Kaspi, as the product heads of each business lines are benchmarked against their NPS scores instead of revenue or user growth. Moreover, Kaspi makes 50.000 phone calls each month with customers to obtain feedback for their products. As the CEO states, the metric is used as real-time feedback that enables constant changes in the business, rather than a tool to measure its health.
Besides its network effects, Kaspi prides itself (deservedly) of being an innovation-driven company with a strong track-record of introducing cutting-edge digital products. CEO Lomtadze has clearly stated that they do not see themselves as a bank, but as a technology company also offering e-commerce and banking services. Furthermore, he states that he's obsessed with controlling the whole customer experience and draws comparisons to both Apple and Amazon. The development of the ecosystem, building a one-stop-shop with continuous innovation that enhances the customer experience is therefore also seen as Kaspi's competitive advantage.
Management & Ownership
Kaspi was founded by Vyacheslav Kim in 2002 when he bought a privatized bank named Kaspiyskiy. However, the real transformation began in 2006 when Baring Vostok, Russia's largest PE firm, took a stake in the company. This led to Mikhail Lomtadze joining the management team in 2007, who together with Kim transformed Kaspi to what it is today.
Kim currently functions as the chairman of the board of directors and has an academic background in mathematics, physics and finance. Prior to forming Kaspi, Kim was known as an influential business man with extensive experience in the retail space. He also serves as a board member for Magnum, Kazakhstan's largest hypermarket chain.
Mikhail Lomtadze is Kaspi's current CEO, co-founder and board member. Prior to joining Kaspi, Lomatdze was a partner at Baring Vostok. Before that, Lomtadze founded its own strategy consulting and auditing firm in 1995, which later became a part of EY. Lomtadze furthermore holds an MBA from Harvard Business School and was named the best CEO in Kazakhstan in 2019 by a Forbes and PwC survey.
It becomes evident that both Kim and Lomtadze have impressive backgrounds and remarkable track-records when it comes to execution. Lomtadze strikes as a visionary leader with strong focus on customer experience, innovation and growth. He can be see as the main person responsible for the transition of Kaspi from a corporate bank to the tech giants it is today. Moreover, key members of the management team have been with Kaspi for more than 10 years, all with solid backgrounds and experience in both finance and technology (many HBS graduates). The heads of different departments have also commonly been at the company for around a decade and appear relatively young on average (~40).
When it comes to shareholder ownership, the major shareholders consist of Baring Vostok (30.7%), Kim (24.1%) and Lomtadze (23.3%), who together hold a strong majority of the shares outstanding (78.1%). Some questions have been raised about how Lomtadze got his equity stake, as prior to the IPO Kairat Satybaldy, the nephew of the former president of Kazakhstan, owned a large stake, which was allegedly transferred to Lomtadze via Kim (article for more details). Satybaldy's political connections were seen as a potential red flag, which is why he exited his position prior to the IPO. However, the question remains what influence he still holds and whether these transferred share are truly 'transferred'.
Opportunities & Risks
Before diving into the financials, I want to highlight some of the opportunities and risks associated with Kaspi. Many people online think that Kaspi's growth is limited due to high obtained market shares and limitation of Kazakhstan as a region. I would debunk this argumentation through the following three ways:
Growth within existing business lines: even though Kaspi has already obtained strong market shares in its three platforms, the level of digitalization (including e-commerce and fintech) in Kazakhstan remains still below that of comparable countries, such as China, Brazil and Russia (see in industry section). The combination of increased levels in digitalization, capturing even more market share and the overall tailwinds of the involved industries provides Kaspi with plenty of growth opportunities left within its existing operations. In addition to this, only 34% of users use all three platforms, allowing for further synergies and growth opportunities within the ecosystem.
Introduction of new products and services: Kaspi still holds plenty of opportunities with regards to extensions of the current ecosystem. Kaspi Travel, POS and the Merchant Finance services demonstrated how Kaspi can quickly launch and monetize new verticals. Kaspi has already mentioned plans to promote more marketing services to its merchants, which comes straight out of the Amazon playbook. On top of this, Kaspi sees medium-term opportunities in other areas of merchant operations, including accounting, HR, logistics and inventory management. Here I see a great opportunity for Kaspi to provide sticky software services such as fully integrated ERP and accoutning systems with features similar to Microsoft's Dynamics.
Geographic expansion: Kaspi has previously always focused on their main market Kazakhstan, but has revealed its ambitions to also expand its services abroad in Central Asia and the Caucasus. While Kazakhstan has a population of close to 18.6 million people, the targeted region has a total population of 87.3 million people with $215B of consumption in 2019. Kaspi has already expanded into Azerbaijan through the acquisitions of of three leading marketplace platforms Turbo.az (a car marketplace), Tap.az (a used and new items marketplace) and Bina.az (a real estate marketplace). This move increased Kaspi's addressable market from 18.6 to approximately 28.7 million people. Furthermore, it is relatively easy for the company to expand its services abroad due to both the asset light business model and the fact that it mostly goes through a mobile phone application: "When you have everything in a mobile phone and in an application, it is much easier to scale." - Lomtadze.
However, Kaspi possesses also substantial risks, mostly related to typical emerging market issues.
Political/Corruption risk: as mentioned before, Kaspi has had some interesting ties with the government. It should be noted that the country has an authoritarian regime with a very poor democracy index score (128th), which can also be said for the other countries in the region pictured above. Hence, political risks should be seriously considered when investing in Kaspi. Furthermore, one might wonder whether the reported numbers are too good to be true. All I can add here is that Kaspi has been consistently audited by Deloitte even before it became public, whereas I was unable to find any comments in the audit reports that might indicate forms of fraud. However, this does obviously not exclude the possibility of numbers manipulation.
Macro risks: Kazakhstan's economy is heavily dependent on the oil and gas industry, which are very cyclical by nature. The commodity cycles therefore have a strong influence on the economy, hence consumer expenditures and as a consequence Kaspi's operations. In addition to this, Kazakhstan experiences much higher inflation rates than western countries which also bring instability to markets and exchange rates. Kazakhstan's currency (Tenge) fluctuates significantly, especially during periods of high volatility in the financial and commodity markets. Kaspi is also strongly affected by interest rates, as they dictate the yields on loans and deposits.
Credit risks: down cycles would also severely affect the credit risks Kaspi has through the loans on their fintech platform. Economic recessions or stagnation would strongly impact the default rates, increasing NPLs and the cost of risk. Liquidity and credit risk assessment are therefore of utmost importance to Kaspi.
Financials
One can examine Kaspi's financials in two ways: per platform or consolidated. I'll first show the numbers per platform, after which I'll continue with the consolidated version for simplicity's sake. Below are some of the KPI's per platform. What stands out is that all platforms have demonstrated strong growth in their volumes, however the payment platform has grown significantly more than others. The growth in GMV is partly lower due to a transition from in-store GMV to e-commerce and m-commerce. Nevertheless, while yields and take rates remained relatively stable for both payments and fintech, the marketplace platform has experienced a strong positive development.
Looking at the table below, we can see that the trend illustrated above also holds for revenues and income per segment. We can furthermore conclude that the marketplace platform is the most profitable based on both gross and net income margins. As mentioned before, with the payments and marketplace platforms growing stronger while also bearing stronger profit margins, one can expect Kaspi's income to become less reliant on the fintech services. This is both positive in terms of profitability and decreased credit risks, consequently boosting Kaspi's valuation multiples which I will discuss later on.
Looking at revenues and income consolidated, we can see a strong upward trend since 2017 with both strong top line growth (32.5% CAGR) and margin expansion (58.7% NI CAGR).
Examining Kaspi's expenses, we can clearly see a decline in interest expenses and loan provisions as part of revenues due to the growth in the payments and marketplace segments. We also see further operating leverage in the decline of operating expenses. Meanwhile, R&D and G&A expenses remain relatively constant, whereas sales and marketing expenses have increased in proportion over the years.
With regards to Kaspi's balance sheet, we can see that the company currently as of Q1 2021 holds 324.8B KZT in cash and equivalents, while having 246.1B in debt and other liabilities, hence the company has a net cash position (note: excluding deposits and loans). Kaspi has also met both Basel III and NBK captial adequacy ratios for both Tier 1 and total capital. Provisions for impairments of loans as a percentage of NPLs have apart from 2019 always been above the 100% mark. The cost of risk (provisions / gross loans) has fluctuated between 1.8%-4.6%. At the end of 2020, Moody's upgraded Kaspi's outlook from stable to positive.
Kaspi released guidance for 2021 after their Q4 2020 report, which they upgraded after the recent Q1 2021 results. The figures are presented below. Kaspi is overall guiding for another strong year with strong growth in all segments and further margin expansions.
Valuation
At a price per share of $85, Kaspi has a market capitalization of approximately $16B. As of writing, Kaspi trades at 25.8x FY 2020 earnings and 17.7x FY 2021 earnings, which can be considered extremely low given the company's growth and profitability profile. However, since the company possesses considerable risks and Kazakhstan has 9% yields on governmental securities Kaspi deserves to be trading at lower earnings multiples than western peers. In order to estimate a fair discount rate, I simply use the CAPM approach, utilizing the 9% risk-free rate, 6.85% equity risk premium and beta of 1 since the company hasn't traded long enough to estimate its volatility compared to the market. Therefore I can simply add up the risk-free rate and equity risk premium, which gives me a discount rate of 15.85%. Note that this discount rate is almost double of that what is commonly used for similar software peers in the US and European markets, but can be supported due to the earlier mentioned factors.
Now for estimations I could of course try to forecast growth and margins for all platforms and estimate the consolidated free cash flows. One could also do a sum-of-parts (SOPT) analysis by giving a valuation to each platform individually. However, I decided to do a simple EPS and P/E exit multiple valuation, because I could already conclude from this back of the envelope approach that the stock seems very attractive at current levels.
Using this approach with analysts' estimates, 50% payout ratio, a 15x P/E exit multiple and the aforementioned discount rate, I achieve a fair price of $105.30 per share (+24% upside). The KZT currency is down around 23% over the last five years against the USD, hence it makes sense to subtract around 4%-5% on annual returns for any FX effects. Even after this subtraction, lower exit multiples or higher discount rates, there still remains plenty of upside from today's price. I therefore see the stock as undervalued right now.
A possible explanation for the undervaluation could be due to people simply not knowing about this stock and the fact that it's a company from Kazakhstan. While obviously not 100% comparable, Kaspi does not enjoy market attention similar to what companies such as Mercadolibre or Sea limited receive. While I personally understand investors' concerns regarding the previously mentioned risks, they seem more than priced in to me.
Conclusion
Kaspi basically has everything I look for in a company. It has strong top line growth while also being extremely profitable with potential for further margin expansion. Kaspi enjoys huge secular tailwinds being active in both the fintech and e-commerce industries, where the company has market leading positions for each of its business platforms. The company furthermore has solid competitive advantages through the network effects of its Super App and its focus on continuous innovation. Kaspi also has plenty of growth opportunities left by further exploiting the synergies between the platforms, expanding into new verticals and entering new geographical markets. Kaspi's management team appears extremely competent with remarkable backgrounds and experiences. In addition to that, the company is founder-led with high insider share ownership. Nevertheless, Kaspi faces typical emerging market risks that should be considered when valuing the stock. Taken these risks into consideration, I believe the stock is trading at attractive levels that can provide market outperforming returns even after subtracting potential currency effects. As a consequence, I currently see the stock as undervalued.
Disclaimer: I’m long Kaspi.kz. The information contained in this report shall not be understood or construed as financial advice. I am not a financial advisor, nor am I holding myself out to be, and the information contained in this report is not a substitute for financial advice from a professional. I shall not be held liable or responsible for any errors or omissions from this report or for any damage you may suffer as a result of failing to seek competent financial advice from a professional.