Huge growth in digital payments has led to multibillion pound valuations for firms such as PayPal and Square owner Block. Another firm I think could benefit from this trend is Airtel Africa (LSE: AAF). It already has a multibillion pound market capitalisation.
But Airtel Africa shares trade for not much more than a pound each and have a price-to-earnings ratio of just 7. Is that valuation a bargain given the rapid growth prospects of the company?
Digital payments opportunity
For the first nine months of its current financial year, the business saw revenues grow 12.1% compared to the prior year. That is impressive to me and reflects Airtel’s focus on African markets where demographic trends and economic changes offer strong growth potential. Almost half of those revenues came from voice services, while data charges were the second biggest contributor.
But mobile money revenue was substantial, at over half a billion dollars, or around 13% of the total. This was also the area in which Airtel recorded the highest growth. Mobile money revenues jumped 27% compared to the prior year period.
Not only should the existing mobile money business continue to grow strongly, but last year’s launch of Airtel’s Smartcash mobile money platform in the massive Nigerian market could also be a big growth driver. In its East Africa business, the company’s mobile money revenues are already almost roughly as big as its data revenues.
Last year, Nigeria was Airtel’s biggest revenue source, even with zero contribution from mobile money. Smartcash could end up making a big difference to the company’s top line.
Turning revenue into profit
What about the bottom line though? Could mobile money prove profitable enough to help boost Airtel Africa shares?
I see the answer as a resounding yes. In the nine month period, the company’s mobile money division saw operating profit margins of 46% and operating free cash flow margins of 45%. For the voice and data business (which is reported as a single business unit), the equivalent numbers were 30% and 37%.
That suggests a larger mobile money business could improve profitability at the operating level and also free cash conversion for the company. The Nigerian launch adds an important new string to Airtel’s business.
My verdict
Digital payment demand in Africa looks set to keep growing strongly. Consultancy McKinsey forecasts electronic payments growth on the continent of 152% between 2020 and 2025.
Airtel is already benefiting, and I expect will continue to do well from it.
But Africa is fraught with political risks. Nigeria’s planned banknote replacement this year descended into chaos, for example, and has been postponed. Airtel’s concentration in just a few African markets gives it economies of scale but also increases its exposure to political risks, in my view.
For now, those risks are putting me off buying Airtel Africa shares. But mobile money could end up being a huge money spinner for the firm. I will keep the business on my radar, in case the potential balance of rewards and risks comes into line with my investment strategy.
