Untangling Paytm

However, this loan origination, either through BNPL or a credit card, for others, by itself doesn’t create a lot of value for Paytm. But when it adds a customer’s digital payment footprint to the loan, it changes the value proposition for partner banks and non-banking financial companies (NBFCs) which need such credit models to strengthen their underwriting processes.

BNPL has opened up massive, underserved segments such as blue-collar workers and new-to-credit borrowers. Most banks don’t serve these segments because of the risk involved, the high cost of onboarding a customer and the hassle of collection and recovery. “The tie-up with payment fintechs has the comfort of reducing the credit risk and giving banks control over collections. The cost of onboarding an existing payments customer is also very low,” says Anubhav Jain, Co-founder and CEO of Rupifi, a fintech catering to SMEs.

However, fintechs earn only a fee or commission for sourcing these loans, whereas their partner banks pocket the lucrative interest earnings. The competition is also heating up, with the likes of ZestMoney and PhonePe entering the BNPL market. In fact, Mobikwik, which has also filed for an IPO, has emerged as one of the biggest players in the segment. Therefore, experts suggest that the real value for Paytm will come from the direct lending business, where the bigger margins lie.

But for this, it needs a full-scale banking licence. Paytm Payments Bank, which accepts deposits but is not allowed to lend, is already considering converting itself into a small finance bank next year after it completes five years, as is required by the Reserve Bank of India. There is a potential to earn more than a traditional bank’s 3.5 per cent to 4 per cent net interest margin. “The kind of margins lending fintechs are making would be probably double than that of banks and NBFCs because of the different market segment,” says Rupifi’s Jain.

But higher returns come with higher risks. “BNPL profitability in the Indian context is yet to be proven as the credit quality of BNPL customers may be slightly worse than that of a typical credit card customer,” warns Barnik Chitran Maitra, Managing Partner and CEO, ADL India and South Asia, a management consulting firm.

Paytm doesn’t provide a break-up of how much it earns from its lending services. But its revenue from payments and financial services — which include its non-lending services such as investment and insurance — accounts for 75 per cent of the total, up from 58.1 per cent a year ago. However, the road ahead for its non-lending businesses isn’t too smooth.

Losses Ahoy

Paytm Money is an online platform for investing in equities, futures and options and mutual funds. It also offers wealth management services. It had more than two lakh equity trading accounts and Rs 5,200 crore assets under management in FY21. Building this on top of its massive payments business has helped Paytm. “Our customer acquisition cost is actually zero,” says Varun Sridhar, CEO, Paytm Money. Then there is Paytm Insurance Broking, which aggregates everything from auto to health insurance products.

But again, these businesses earn Paytm only fees, such as on account opening and transactions in equity broking, and commissions, such as on insurance premiums. It is also up against new-age players like Zerodha, Upstox and 5paisa who have, in quick time, built a lending business on margin trading — lending customers money to buy shares — on top of their zero brokerage model.

When it comes to insurance broking, aggregation services offer razor-thin margins. Paytm, though, has a broking licence and has been selling insurance products through its platform for a while. It is also acquiring traditional general insurance company Raheja QBE. Still, it is up against pureplay digital players like Digit and Acko Insurance, which are backed by deep pocketed investors and offer a paperless insurance process. However, Ajit Deshmukh, MD at investment banking firm Equirus Capital, believes Paytm’s bulk in terms of customers and transactions will help it grow. “Payments is a scale business. The pyramid of lending and investment products for Paytm is building up in a nice way. As they keep adding the layers, you will see them making money,” he says.

Paytm also has a commerce and cloud business, which accounted for 25 per cent of revenue in FY21. It offers services like ticketing, entertainment and travel. It also sells merchant software and cloud services for billing, inventory management and real-time bank settlement. Here too it has built scale on the back of cash-backs and discounts, which is neither sustainable nor helpful to profit margins. Moreover, it has to compete with behemoths like Amazon and Reliance, among others.

“Paytm is betting on higher-margin products to offset the low margins in the payments business but the scale in the non-payments business would take time,” says an investment banker. Nonetheless, Paytm made it clear in its 497-page prospectus that it would continue pushing the growth pedal after its IPO and use a large chunk of the proceeds to fund business acquisitions and partnerships.

It also had another warning in the risk section of the prospectus. “We have a history of net losses, we anticipate increasing operating expenses in the future, and we may not be able to achieve and maintain profitability.” This is not the sort of predictability public markets look for. “The (historical) losses actually don’t matter for investors in public markets. They invest based on the guidance of profitability,” says Deshmukh of Equirus Capital.

This is very different from investments in the startup world, where growth and market potential are bigger factors. “Every next round is done on a higher valuation, otherwise it will result in dilution of equity for existing investors and founders,” says Shah of RBSA Advisors. “There is a perverted incentive for fundraising at higher valuations, which may be unrealistic and not in congruence with the underlying operational performance.”