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Why I think Zip Co Ltd (ASX:Z1P) could be a better buy than Afterpay Touch Group Ltd (ASX:APT)

Australian digital financial company Zip Co Ltd (ASX: Z1P) could rightly feel a little neglected by the market.

Media attention has been focussed much more heavily on its sexier rival in the “buy now, pay later” space, Afterpay Touch Group Ltd (ASX: APT). Afterpay has been one of the standout performers on the ASX, with its share price soaring over 180% this year – spurred on by announcements of expansions into the lucrative US and UK markets.

But that media attention hasn’t all been positive: after Afterpay recorded a 365% increase in revenues from late fees in FY18, many reports claimed that the company’s service was putting financial stress on millennials.

Buy now, pay later financial services companies currently take advantage of a loophole in the National Credit Code as they technically don’t charge interest to customers, unlike other traditional lenders. Revenue is instead generated through merchant fees charged to retailers who use their payment platforms, as well as flat late fees on outstanding customer account balances. This regulatory loophole means that these buy now, pay later companies can avoid having to comply with responsible lending requirements such as thorough background credit checks – instead approving customers’ purchases instantly.

ASIC is now considering reforming the sector.

So perhaps avoiding some of that media scrutiny might be a good thing for Zip. While Afterpay has had to publicly fend off attacks that it’s preying on financially illiterate consumers, Zip has quietly been clocking up some wins of its own.

For example, Zip announced in August that it was partnering with Virgin Australia, allowing customers to use Zip’s payment platform when booking flights. And just this month the company announced a similar partnership with Target Australia, part of the Wesfarmers Ltd (ASX: WES) Group.

These two new partnerships add to an impressive list of retailers that have already inked deals with Zip. The company currently partners with Officeworks (also part of the Wesfarmers Group), craft and homewares chain Spotlight Australia, budget airline Tigerair, and the Super Retail Group Ltd (ASX: SUL), which owns the Rebel, BCF and Supercheap Auto brands.

This activity has pushed Zip’s share price up over 60% this year to $1.13 at the time of writing, with the majority of those gains coming since the beginning of August.

Should you invest?

In an investor presentation dated August, Zip reported that it had grown its consumer base by 145% in FY18 to over 730,000 active users. Revenues for the year were up 138% to $40.4 million, with over $750 million worth of annualised transactions having been processed through Zip’s platform in FY18.

While this growth is impressive, based on these numbers Zip still lags significantly behind Afterpay. In its FY18 results presentation released to the market last month, Afterpay reported revenues and other income for the year of $142.3 million, an increase of 390% over FY17. Total sales processed using the Afterpay platform in FY18 were almost $2.2 billion and it claimed to have 2.3 million active customers.

But given how much Afterpay’s share price has risen this year you have to wonder how much gas it has left in the tank. Zip, on the other hand, has experienced far more modest growth in its share price and could offer better value for bargain hunters looking to invest in the buy now, pay later space.

However, for the more risk-averse amongst you, it is worth remembering that just because Zip has had less media attention than Afterpay this doesn’t mean that ASIC would treat them any more favourably if it decides to review the “buy now, pay later” industry laws. So while the industry does seem to be booming right now, the threat of a regulatory storm is possibly building on the horizon.

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Motley Fool contributor Rhys Brock owns shares of AFTERPAY T FPO. The Motley Fool Australia owns shares of and has recommended Wesfarmers Limited. The Motley Fool Australia owns shares of AFTERPAY T FPO and Super Retail Group Limited. 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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