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Afterpay Touch Group Ltd shares are wobbling on broker scrutiny

The Afterpay Touch Group Ltd (ASX: APT) share price is down 5% to $6.77 today and down more than 12% in the last two weeks.

The Australian Financial Review attributes the decline to a couple of downbeat broker notes, particularly one out of Credit Suisse calling attention to regulatory risk the company is facing.

Afterpay is best known for its buy now, pay later, service that allows customers to break down their purchases.

Spending limits vary, with a maximum of $1,500 – in four fortnightly instalments, while the merchant immediately receives the whole amount from Afterpay, in exchange for a 4% fee.

Afterpay revenue increased 518% in the first half of FY2018 compared to the previous year. As the business grows, the question is whether a regulatory review of the sector will lead to Afterpay being classified as a lender under the national credit code, with a potential impact on the company’s business model according to some brokers.

Afterpay’s success lies in its simplicity: creating an account is easy and quick, compared to getting a credit card with a bank for example.

Furthermore, the service doesn’t entail establishment or account fees, nor interest. So why should it come under ASIC’s scrutiny?

One controversial aspect is the late payment charges imposed on customers who fail to complete their payments in the prescribed timeframe. The company minimises their importance for the business, stating that most of the revenue comes from merchant fees and 93% of transactions are completed without charges. However, late fees accounted for $10.8 million of the company’s income in the six months ended December 31, or about 18% of the group’s revenue.

Other important points stressed by a broker in questioning the company’s valuation include the potential need for further injections of capital to keep the business growing and concerns about competition driving down Afterpay’s margins.

Foolish takeaway

Afterpay’s share price nearly tripled between the merger with Touchcorp in June 2017 and March’s $7.80 high. I think the increase is justified by the outstanding performance of this simple but innovative business and I expect further growth from this stock before the watchdog looks in its direction.

However, regulatory risk is real and I’d recommend keeping Afterpay on your watch list as long as a regulatory review looms over the sector.

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Motley Fool contributor Tommaso Autorino has no position in any of the stocks mentioned. The Motley Fool Australia owns shares of AFTERPAY T FPO. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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