Description

Summary

Splitit is a payments technology company that allows retailers to offer installment-based purchases to their customers. Unlike traditional buy-now-pay-later (BNPL) companies, Splitit does not offer new loans or take credit risk on its balance sheet, but rather utilizes a customer’s existing credit card revolver to parse out the installments (akin to the installment mechanism in emerging markets such as Latin America). Although it is a relatively unknown company, Splitit’s customers include Google Japan, Vestiaire Collective, Canyon Bicycles, and Purple Mattress. The company had significant missteps in the past but is now led by CEO Nandan Sheth, who co-founded and sold two financial companies (Harbor Payments to American Express for $150m in 2006 and Acculynk to First Data for $85 million in 2017), and CFO Ben Malone. Nandan has brought a new strategy to the business, focusing more on the supply side (a white-label offering for merchants) as opposed to the demand side (the expensive proposition of building a consumer brand). The company is young and unprofitable (and therefore more speculative than the typical idea suggested here), but its costs are substantially fixed and it has positive unit economics with each incremental dollar. As the company scales – a result of Nandan’s new strategy – it should become profitable. Management and the board have participated in a recent capital raise, and a portion of Nandan’s compensation requires a trading valuation exceeding $1bn or a sale of the company for more than $1.5bn – a far cry from the ~$50-55m (USD, though keep in mind the company trades in AUD) fully-diluted valuation the company trades for today.

Background

Traditional BNPL companies such as Afterpay or Klarna allow merchants to accept installment-based purchases from their customers. By allowing customers to spread out their purchases over time (typically, 25% immediately, and then another 25% every two weeks for the following six weeks), customers are more likely to complete a purchase (decrease cart abandonment) or spend more on a purchase. The BNPL company issues the loan, and the merchant gets paid immediately. For this luxury, the merchant pays the BNPL company a fee as a % of the transaction value.

These BNPL companies have spent an enormous sum primarily to acquire customers, but also to fund customer loan losses. Because the loans are typically small in size, the companies are able to limit losses on an individual basis (and thereby improve their data over time). But when the economy sours and interest rates rise, they may face significant losses on a cohort basis – which can be significant relative to the slim margins they generate.

Nevertheless, BNPL has skyrocketed in popularity, especially among the younger generations with lower credit scores or no credit cards. This success has put the BNPL companies at odds with three parties: the traditional merchant acquirers (who lose out to debit/ACH-based BNPL payments), the banks (who lose out on interchange or revolving credit interest), and the merchants (who forego their customer data to the BNPL company).

Meanwhile, Splitit is different. Splitit users tend to have high credit scores and a lot of unused capacity on their revolving credit lines. Instead of issuing a new loan, Splitit blocks the value of the purchase on a consumer’s existing credit card and reduces the block each month as the consumer pays the monthly credit card bill. For example, assume a consumer purchases a Canyon bicycle for $6000 utilizing 6 installments. Splitit would block $6000 on the consumer’s credit card revolver and reduce that block by $1000 each month. The consumer would therefore only need to pay $1000 per month for 6 months (including the immediate first payment of $1000) as opposed to $6000 at once. This is similar to the mechanism in which emerging markets installments work (on credit cards, as opposed to new loans). Meanwhile, the merchant could choose the non-funded model (40% of MSV, and wait for the payments each month), or the funded model (60% of MSV, whereby Splitit funds the merchant immediately while waiting for the consumer’s monthly payments – with nearly zero credit risk given that the issuing bank is the underwriter). In addition, because Splitit doesn’t require regulatory approval on a per country basis (because it doesn’t issue credit), credit card users all over the world can use the technology anywhere it is accepted by a merchant.

Merchants love Splitit for the same reason they like BNPL – it results in more purchases and higher average order values. My survey of a large number of Splitit merchants indicated that Splitit’s share of checkout has been as high as 25-50% for many merchants! This is an astronomical figure that is evidence of the quality of the product. Unfortunately, a poor operation/strategy has historically hindered the company’s growth potential but that is likely about to change with the involvement of Nandan.

History

Splitit (at the time, Pay It Simple) was founded by Gil Don and Alon Feit in 2009. Installment-based payments were common in Israel, so Gil’s original idea was to create an installment-based gift system for weddings (where cash is given as opposed to gifts). He realized that the market was small and therefore decided to analyze the potential of the same idea in the US market, only to discover that installments didn’t really exist in the US in the same way that they did in Israel (or places like Latin America or Turkey for that matter). The US had many different issuers and many different acquirers, whereas in emerging markets, installment-based payments took place through the same issuer and acquirer – so there was no risk for the issuer to provide credit. Gil recognized that there would need to be a technology layer connecting issuers and acquirers, and he also recognized that issuers in the US only provided a guarantee on the payment for 30 days. Because any future installment payments (past the first month) would not be guaranteed, the Splitit team ended up programming an authorization that continued to renew until the installment plan was complete. Along with Alon – who had experience working for Itaú in Brazil as well as Mastercard – the two worked with Visa and Mastercard to ensure compliance, and today the company has global partnerships with both companies.

In 2019, following the success of Afterpay, Splitit was listed on the Australian Stock Exchange and raised $8.6m in the process. Brad Paterson (from PayPal) replaced Gil as the company’s new CEO, and in the following year, the company raised $71.5m in another offering led by Woodson Capital. Brad's marketing background led him to focus on building a consumer brand, and the company quickly burned through the funds it raised, including on promotions in the English football (soccer) league. Unfortunately, this strategy failed as traditional BNPL competitors had much larger budgets and Splitit was nowhere to be seen across major merchants. The company had secured primarily smaller merchants and most of its negotiations with large merchants failed during the final discussions.

The board decided to bring in somebody with retail expertise as an interim CEO to help diagnose the company’s problems, and John Harper, former COO of Macy’s, joined the company. John re-energized the team (which was inexplicably disparately located across the world) and helped transition the company to the leadership of Nandan Sheth, the company’s CEO today.

Management

Nandan joined Splitit in March 2022, following more than 20 years of experience in the financial sector. In 2006, he sold his first company Harbor Payments (accounts receivable/payable workflow) to American Express for $150m and in 2017, he sold his second company Acculynk (debit routing for ecommerce) to First Data for $85m. Given his significant experience in financial infrastructure, Nandan believed that Splitit had a great product but a bad strategy. Instead of building a consumer brand (which was expensive and likely impossible), Nandan decided to promote Splitit as a white-label solution to merchants. And instead of exclusively selling merchant by merchant, he has sought to make partnerships with acquirers, independent software vendors (ISVs), and other payment facilitators in order to achieve mass adoption more quickly. The final step would be to allow the issuers themselves to fund the merchants directly instead of Splitit using its own balance sheet. In contrast to the traditional BNPL (as discussed previously), this strategy aims to create allies among the acquirers, banks, and merchants, and thereby accelerate growth. This strategy is now beginning to bear fruit as several announcements have followed Nandan’s arrival.

Why the opportunity exists

The opportunity in Splitit exists for a number of reasons. First and foremost, this company should not be public. It is very small and only went public to take advantage of the hysteria around BNPL. Today, the market cap is only $50m USD and the company is therefore off the radar of most investors. At the same time, the BNPL sector is currently in the gutter. Klarna’s valuation dropped from $46bn to $7bn and the losses in BNPL continue to pile up. At the same time, Splitit itself is unprofitable, and the market has no patience for such companies today. This distaste is magnified when the unprofitable company isn’t growing substantially – which has been the case for Splitit – but something that should change with the new management and strategy.

Valuation/catalysts/are you a value investor?

Very simplistically, Splitit transacts $400 million each year (MSV – merchant sales volume) with an average order value (AOV) greater than $1000. This results in approximately $10m of revenues and a cost base of $20m (mostly fixed costs). Each incremental dollar that goes through the system yields nearly 1.5 cents of pre-tax profit for the company (and hopefully en route to 2 cents), which would imply profitability once the company reaches $1 billion of MSV.

For the current market cap of $50m to be justified, Splitit likely needs to achieve $2m profit in short order. That would require around $13m of incremental revenue, which would require around $800-900m of incremental MSV, or a tripling of the current business. Why do I believe this can happen?

First and foremost, I have spent a large portion of my life investing (and existing) in emerging markets, where installment payments are ubiquitous. Splitit is to developed markets what installments are to emerging markets. The difference is that in such places, the installment layer is already structurally baked into the system, there are few acquirers and issuers, and they are connected via on-us transactions. In other words, there is no need for a “Splitit” in these places. In developed markets, however, credit card-based installments do not exist and Splitit has created an agnostic technology layer that allows any credit card from any issuer to have split payments.

The company has achieved $400m of run-rate MSV with a poor strategy, poor product (historically), poor management, and poor capital allocation. Today, all of these have been vastly improved, so my hypothesis is that the MSV should increase significantly. The company is focused on aligning all stakeholders in the ecosystem and has significantly improved the talent density in the company. As a result, the product and capital allocation are vastly improved, and the result of that should be growth in MSV. By creating partnerships with acquirers/ISVs/payment facilitators, Splitit will have much improved distribution (at the cost of some revenue share) as opposed to relying exclusively on its sales force to sell merchant by merchant. And by partnering with the issuers, Splitit will incentivize them to participate in the company’s growth by funding merchants with a lower cost of capital.

Furthermore, one likely catalyst is that Splitit is in the eleventh hour of negotiations with Google USA to replicate the Google Japan business. The company has already achieved shareholder approval for a change in funding terms with its wholesale partner Goldman Sachs in order to be able to serve this contract profitably (Splitit is allowed to pay a lower interest rate in exchange for a repricing of Goldman’s warrants in Splitit). Although Google USA represents only one additional merchant, such a contract would be a big testament to the quality of Splitit’s product and would without a doubt result in increased attention from other merchants.

Risks

I may be wrong that this is a product that merchant end consumers desire. Merchants love the product for the reasons previously stated, but some consumers are confused by the credit card blocks and find the product useless because their revolving credit line is blocked. However, these are typically not the ideal/typical Splitit customers that have large revolving credit lines.

Competitors may attempt to create a similar product. Historically they have focused on traditional BNPL (including the issuing of loans) but some (Affirm) have assessed whether they should replicate or acquire Splitit and decided to pursue neither. Although Splitit has certain patents revolving around the refreshing authorization, I ascribe little value to this and instead believe the product could indeed be replicated. The key for the company is to ally with acquirers to achieve distribution and with issuers to provide merchant funding – in which case the company becomes a pure technology layer with economies of scale and doesn’t have a cost of capital disadvantage that could leave it exposed to price competition.

The issuing banks themselves are offering installment payments, but this has most often been offered post-sale. A post-sales installment offering is very different from an installment offering at the POS because the latter is more likely to affect consumer decision-making.

Finally, any price for an unprofitable company can be too high a price. I have done enough customer research to believe that this is a product that merchants love and that with the right management and right strategy could be 100x its current size. If I am right, we stand to make an enormous return; if I am wrong, we could be exposed to a total loss.

Catalyst

Google USA contract

Acquirer partnerships

Big merchant announcements