The AfterPay Touch Group (ASX: APT) share price is up 10% to $15.74 this morning after the buy-now-pay-later startup revealed a record quarter ending December 31 2018 and more strong growth in the U.S. market.
The group reported that for the six-month period ending December 31 2018 it processed $2.2 billion in underlying sales, compared to $918 million in the prior corresponding half, with the U.S. business contributing $260 million of underlying sales.
Customer growth is still going gangbusters with it gaining 7,500 new customers per day over the Christmas quarter, which suggests its marketing efforts are also being supported by the viral effects of the social media posts by millennial 'A-listers' such as Kim Kardashian.
In total it now has 3.1 million average customers with an average age reportedly rising to 33. It reports that 2.5 million Australians or New Zealanders have used the product in the last 12 months, with 1 in 4 Australian millennials using the service.
One part of the business model that has come under question is the reliance on late fees due to their potential to be scaled back by regulatory interference, however, today the group reported late fees as a percentage of revenue continue to fall to less than 20%.
The inference being that it's becoming less leveraged to one part of its revenue model that is relatively vulnerable, with almost all its other revenue derived from merchant fees as a small percentage of each transaction.
Its net transaction loss for the half year came in at the "lower end" of its targeted range between o.6% and 1% as a percentage of underlying sales.
Rising costs on the back of greater regulation remain a risk for AfterPay, although I'm prepared to overlook this on the basis the regulator is likely to ever enforce client ID verification standards similar to a money transfer business for example.
AfterPay is also expanding its reach in Australia away from traditional fast-fashion and other apparel retailers into more general leisure services like JetStar, Village Roadshow (cinemas) and Luna Park in Sydney.
In reality there's no limit to the sectors in which AfterPay can offer its free digital credit product just as you can pay for pretty much any goods or service using a MasterCard or Visa at the moment.
Much investor attention is on its progress in the U.S. market, where it has now signed up 650,000 customers across 1,400 retailers that have transacted, with 2,200 retailers in total being live or in the process of signing up.
Obviously, the U.S. retail market is huge and represents a lucrative opportunity for AfterPay and its shareholders.
However, it did not provide an update on how much it expects to lose to get the U.S. operations into profitability with it last 'targeting' a $20 million EBITDA loss in the U.S. over FY 2019.
In August 2018 it raised $117 million cash at $17.05 per share from institutional investors that gives it plenty of balance sheet firepower to fund its international operations.
It also updated investors today that it has negotiated US$300 million in debt facilities able to fund US$4 billion in annual underlying sales, which it requires as a credit extender booking a lot of accruals from its retailer clients.
The one potential cloud on the horizon is the Brexit-busted UK retail market that AfterPay entered into via a $100 million+ scrip-based acquisition in 2018. It didn't provide much in terms of a progress update in the UK, but investors seem willing to shrug this off for now given the success in Australia and the U.S.
I picked up a tiny stake in AfterPay shares at much cheaper prices in November on the back of its U.S. sales strength, although its EBITDA (operating income) is positive it remains a (historically) loss-making business on a big valuation around $3.31 billion, so I wouldn't suggest investors put more than 1%-2% of investable funds into the group.
I would not be surprised to see the stock go higher in 2019, although I have my eyes on other software businesses in the U.S. in the high-risk loss-making space as better risk-adjusted bets for big returns in 2019 and beyond.
The only other loss-making businesses in Australia I own are Xero Limited (ASX: XRO) and Nearmap Ltd (ASX: NEA), and generally I would not suggest serious investors by businesses that cannot make a profit unless they have clear path to profitability.
