tsg commentary: first data public offering...

TSG Commentary: First Data Public Offering Announcement

For discussion purposes only.

© Copyright 2015. The Strawhecker Group.All Rights Reserved.

The views expressed on this date are those of The Strawhecker Group (TSG) and are subject to change. They are shared fordiscussion purposes only. This is not a complete analysis of every material fact regarding any company or industry. Theinformation is based upon information we consider reliable, but its accuracy and completeness cannot be guaranteed.

07/24/15


© Copyright 2015. The Strawhecker Group. All Rights Reserved. 2

First Data IPO Announcement

First Data in the Payments Ecosystem The payment ecosystem is changing rapidly with new players, new innovations and new technologies moving in and out at sometimes staggering

rates. The common thread is that all incumbents are continually seeking new ways to assist consumers and businesses in the way they make purchases. In tandem, the way consumers shop and make purchases through various channels are continually evolving. We are seeing a blurringof lines between brick & mortar (physical) payments and online/mobile payments. All payment players are continuously figuring out how to take advantage of the changing payments landscape whether that be broadening lines of business or taking advantage of emerging technologies in this omnichannel environment.

Although First Data is the dominant player, technology is having a profound impact on payment processing, which leaves more room for small companies to grow faster and eat up market share.

On July 20, First Data filed a registration with the Securities and Exchange Commission related to an initial public offering. Many aspects remain to be determined, including the number of shares to be offered and the price range. Furthermore, it is possible the company may not have an IPO. This document TSG’s commentary on this announcement.

Another issue affecting First Data as the world’s largest payments processor is that it is difficult to be all things to all customers. The industry has evolved as it now is creating more specialized solutions for individual industry types which are very difficult for a large company to have the ability to react quickly and nimbly enough to fill each of these market needs. A large number of smaller payments industry providers are being formed or adjusting to fill these opportunities and are growing quickly.

U.S. Merchant Acquiring Ecosystem

First Data plays a part in multiple parts of the payments value chain, including both the acquiring and issuing sides of the transaction, as well as a debit network operator. These comments predominantly focus on their position in the acquiring market.

The chart shows First Data’s unique place in the U.S. merchant acquiring ecosystem, with a role as 3rd party processor to merchant acquirers, as a merchant acquirer themselves, as well as a technology provider.



First Data IPO AnnouncementFirst Data is the preeminent third-party processor in the U.S. market with an estimated 40% share of relationships among the top 200 U.S. acquirers/ISOs. This week, TSG discussed the IPO announcement with a selection of First Data third-party processing clients on the acquiring side of the transaction. Their comments on the IPO are below.

“We feel pretty positive about this move. First Data is still highly leveraged under the current structure although improved in the past year. We think this will stabilize the company financially and really don’t envision major impacts to their senior management team.”

“We are concerned that in order to ‘make a number’, and in spite of our contract terms, we may be subject to unexpected price increases from First Data in the future.“

“This will hopefully allow First Data to loosen the purse strings and focus more on customer support, which it seems they have recently been cutting back on.”

“The IPO announcement is strong for the acquiring industry and can improve positioning for new acquisitions. One concern is that once they are public, will they be able to meet quarterly expectations.

“Having a financially sound vendor serving my customers is of great importance.”

”We do not process for high risk merchants, but I expect some ISOs to be concerned in that area.”

“ In spite of their market leadership, they will need a higher growth rate to satisfy the street. This is my concern.”

Comments from First Data 3rd Party Processing Clients




• An array of innovative solutions have been introduced by First Data over the last 12 months to help merchants and financial institutions grow. This has stemmed from First Data’s increasingly large presence in Silicon Valley/Bay area. A couple of years ago, First Data had a minimal presence in the technology mecca and in some cases was viewed as the arrogant 800lb payments gorilla that did not need to collaborate with innovative technology providers to sustain or propel growth. Today, the company is growing a small empire in the Bay area and has over 100 employees in the Palo Alto. With that said, First Data is evolving into a true technology payments player. For example, First Data created Insightics with Palantir. Palantir was founded in 2004 by Peter Thiel (and others); Thiel was a founder of PayPal and angel investor in Facebook. Early investors in Palantir included the US Central Intelligence Agency venture arm In-Q-Tel.

First Data Opportunities & Technology Plays

• First Data's revenue might only see minute increases over the next few quarters. However, First Data’s recent technology developments could place them at the forefront of the evolving payment processing industry. If we see successful sales in their new hardware technology systems and successful rollout of other tech-related products, First Data may see a surge in sales like never before.

• First Data is in the process of re-energizing its STAR debit brand. First Data is undertaking to expand and improve its STAR debit network, which processes PIN-debit transactions at the point of sale and at ATMs. STAR is receiving a healthy amount of investment and attention from First Data’s management.

• With First Data being the leader in payment technology, and having such a huge global reach, the company’s security package opportunity could also be a large piece of First Data's growth. A key piece to their security package, TransArmor, is tokenization, which secures cardholders' information by adding another layer of security, therefore reducing risk.




• First Data has historically been an acquisitive company, however due to the company’s debt-load, the potential to acquire several key acquisition targets in the industry over the past several years has been hindered. These potential meaningful targets were takenadvantage by some of First Data’s key competitors. On the other hand, instead of conducting large acquisitions that are challenging to integrate and broad in nature, First Data has refined their acquisition vision to focus on smaller, more nimble, strategic payment technology companies.

• First Data has been a revolving door for executive managers. In the last seven years, First Data’s had five chief executives. This makes it difficult for First Data to tackle and take advantage of industry opportunities as strategic initiatives constantly shift gears. For example, First Data lacks cutting-edge technology in the fast-growing mobile-payments sector. They’ve missed the opportunity to bolster its most important stakeholders with their own mobile wallets, namely credit-debit card issuers and retailers.

• Recently the company appears to have regained more focus and sharpened its message to its key stakeholders such as with its SMB Growth and Vision: First Data has transformed into a provider of new technology for small- and medium-sized businesses. First Data and KKR vetted more than 60 startups before, in October 2013, announcing it had acquired POS startup Clover, cardless mobile loyalty startup Perka and Gyft in 2014. In June 2014, First Data introduced the Insightics solution for small and medium size businesses (SMBs). Insightics is a cloud-based software that enables small and medium size businesses to monitor key business metrics.

Other First Data Trends

First Data International

• Since the leveraged buyout of First Data by KKR, international expansion was put on the backburner for the most part as management focused intensively on growing into new areas domestically like cybersecurity, tablet terminals and data analytics. First Data has stated it plans to expand more overseas. The expansion efforts will likely receive more attention and kick into full gear after an IPO, and the accompanying roadshow is complete.

• In the latest development of First Data’s intent to expand more overseas, in July 2015, the company created an International Advisory Board which is tasked with expanding First Data’s payment operations overseas. The International Advisory Board will be comprised of leaders of the global business community dedicated to expanding the company’s growth in new and existing markets and advisingcompany management on issues related to products, services and programs designed to help First Data clients grow their business.

• In Q2 2015, through First Data’s partnerships with Capgemini, the two companies started to offer new technologies around First Data’s next generation payment technology software based on First Data’s AccessPLUS and VisionPLUS solutions.



First Data IPO AnnouncementFirst Data International (Cont.)

• Expect First Data to push its line of Clover terminals aggressively overseas during the next 12 months. In addition, First Data has been heavily promoting its support for Apple Pay and Android Pay mobile wallet platforms in some international markets. In June 2015, First Data officially announced its support of Apple Pay in the UK market.

• First Data currently goes to market overseas in a number of different ways. One of the notable ways the company has seen success is by striking alliances with local bank players and offering services under the bank brand’s name. India and emerging markets in South America, particularly Brazil, offer a great deal of promise and will likely see a healthy dose of investment over the coming years. In Q3-14, First Data expanded their presence in Brazil with the launch of BIN, First Data’s acquiring solution developed specifically for Brazil. Brazil is one of the fastest-growing payments markets in the world and First Data’s partnership with local banking cooperative, Bancoob, is providing access to an existing base of merchants and sponsorship to expand into other areas within Brazil.

• First Data International currently has operations in 33 countries. The International acquiring services facilitate the merchants’ ability to accept credit, debit, and stored-value cards. The segment’s merchant processing and acquiring services include authorization, transaction capture, settlement, chargeback handling, and Internet based transaction processing and are the largest component of the segment’s revenue. Most of First Data’s international revenue stems from three countries: 1)UK, 2) Germany and 3) Australia.

Current Environment of Public Payments Companies

• The industry price-to-sales average ratio for a business services company is around 2.2. If we look at Vantiv, a payment processing company that went public a few years ago, they are trading at a market cap of around $6 billion, with current annual sales of $2.6 billion, therefore trading at about a 30% higher price to sales ratio than the industry average. The major differentiating factor between Vantiv and First Data is that Vantiv is smaller and has shown profitability. And although profitable, Vantiv is still trading at a price-to-earnings ratio twice as high as the business services industry, which could indicate that investors are actually interested and optimistic about the future of payment processing.

• Anecdotally, our firm has seen a large uptick in private equity’s interest in the payments space, based on the number of calls we have been receiving from these types of companies. The payments industry is an attractive market due to its efficient economic model (recurring and predictable revenue model with manageable risk) and because it feeds of organic economic growth (inflation andGDP) and increased consumer usage.

The following pages contain recent payments market analysis and an overview of TSG’s services.



Public Payments Companies IndexThe chart below displays the performance of an index of selected payments companies which represent the “TSG Payments Index”. This index is calculated on a value weighted basis using market capitalization and is compared to the S&P 500 which is also calculated using the same methodology.

TSG Payments Index (TSGPX)The chart above displays the performance an index of thecompanies listed to the left which represent the “TSG PaymentsIndex” - this index is calculated on a value weighted basis usingmarket capitalization and is compared to the S&P 500 which is alsocalculated using the same methodology. This analysis does notinclude affects of re-invested dividends. While some of thecompanies listed in TSG’s Payments Index do not meet therequirements to be a S&P 500 listed company (S&P listed companieshave a market cap of at least $3 billion), the S&P 500 served to bethe best comparable index to TSG’s Payments Index since it is one ofthe most commonly used benchmarks for the overall U.S. stockmarket. In fact, many consider it to be the definition of the market.The companies included in TSG’s Payments Index met the criteriathat at least 50% of their revenues were produced from electronicpayments products or services. *Calculated using closing datathrough March 6, 2015.



- 1.00 2.00 3.00 4.00 5.00 6.00 7.00 8.00

95% of multiples ranged from 0.56x to 6.10x

68% of multiples ranged from 1.00x to 5.66x

16% > 5.66x16% < 1.00x

.05% > 6.10x.05% < 0.56x

AVERAGE: 3.33x

$150bil

$50bil

$300bil

Timeframe: 2000 – 2014Market Transaction ComparablesData Set: 90 Transactions

Purchase Prices: $300K - $30B

An

nu

al S

ale

s V

olu

me

-$

Bill

ion

s

Net Revenue Multiple (Annual)

• No sales channel/force included in sale• Stagnant or declining growth• High attrition ( > 20% per year)• Low net revenue margins• No merchant account portability

• No competitive sales strategy• High losses• Little or no profitability• Few cost synergies to buyer

Low Multiple Characteristics

• Sales channel/force included in sale• Solid sales growth ( > 10% per year)• Low attrition ( < 15% per year)• Solid net revenue margin• Strong management team

• Ease of merchant account portability• Sustainable strategy or market niche• Low losses• Good profitability• Good cost synergies to buyer

High Multiple Characteristics

Cost of the Transactions:• Interchange• Assessments and network fees• Residuals paid to sub-ISOs• Third Party Processing Costs

Net Revenue = Gross Revenue + Other Income – Cost of the Transactions

Other Income • Equipment revenue• Lease revenue• Additional service revenue• Monthly fees

Red Plots = 2010 - 2014

Acquisition Multiples - Review of Payments Industry M&A Transactions - A Historical Perspective: Industry Enterprise and Merchant Portfolio Net Revenue Multiples



Payments Industry Growth MarketsThe chart below shows the rates at which new accounts are being added in the U.S. market over the past few years. On average, 23.8% of accounts in a merchant portfolio have been added in the previous 12 months. Entertainment & Recreation is the group that has the strongest growth, relative to itself, over the past four years. This is sourced from TSG’s AIM database of almost 3 million merchants in the U.S. market.

New Credit/Debit Card Processing Accounts Added in the U.S. Market by Industry2012 – 2015 (TTM)

26.3%

23.8%

15%

20%

25%

30%

35%

2012 2013 2014 2015

Average Travel - Airline, Hospitality & Car Rental Business Services Construction

Eating & Drinking Places Educational, Non Profits, Public Services Entertainment & Recreation Farming & Agriculture

Finance, Insurance, & Real Estate Grocery & Petrol Healthcare Manufacturing & Mining

Personal Services Public Administration Retail Transportation, Communication, & Utilities

Wholesale

Entertainment & Recreation

Personal Services

Education/NPOEating/Drinking

RetailGrocery/Petrol

Construction

FinanceFarming

Transportation

Healthcare

Manufacturing Wholesale

Public Admin

Biz Services



Transaction Advisory

Performed Transaction Due Diligence for:

TSG has completed business assessments for more than 100 payments companies ranging in value up to $2B


© Copyright 2015. The Strawhecker Group. All Rights Reserved.

About TSG

6

The Strawhecker Group (TSG) is a management consulting company focused on the global electronic payments industry.

TSG’s Service GroupsPayments Strategy - Payments Strategy encompasses the full spectrum of advisory services within the Payments Industry. The depth of these services is built on deep industry knowledge - the Partners and Associates of the firm have an average of over 20 years of industry experience. With clients from card issuers to merchant acquirers, TSG has the experience and expertise to provide real-time strategies.Transaction Advisory - Whether buying or selling, seeking investment funding, or planning your company’s exit strategy, TSG’s experience can be critical to achieving success. TSG has performed more than 100 Payments Company Valuation and/or Business Assessments in the past three years - ranging in value up to $2B.TSG Metrics - TSG Metrics, the strategic research and analysis division of TSG, provides the Payments Industry with highly focused research andindustry-wide studies. TSG Metrics takes data, boils it down to information, transforms it to knowledge and presents it to provide wisdom to its client partners.Consumer Spend Division - TSG understands consumer spend trends and the macro-economic landscape. TSG’s Consumer Spend Division (CSD) has a wealth of unique data that can provide extraordinary insight into consumer spending patterns at major merchant categories through our spend database that spans 2.8 million U.S. merchants.

TSG’s Unparalleled ExperienceTSG consists of Industry leaders with extensive experience leading teams through explosive growth periods, mergers and acquisitions, and international and domestic expansion within the Payments Industry. Both Partners and Associates of the firm have held key senior management positions at leading industry companies including First Data / First Data International, Visa Inc., MasterCard, TSYS, Humboldt Merchant Services, WorldPay, Heartland Payment Systems, Cardservice International, iPayment, Alliance Data, RapidAdvance, Accenture Consulting, Redwood Merchant Services, Chase Paymentech, as well as other leading financial institutions and Payments companies.

TSG’s Influence Shapes the Payments IndustryOver the last three years, TSG has completed over 400 projects for more than 200 different clients including financial institutions, merchant acquirers, card issuers, card associations, technology providers, ISOs, processing companies and the investment community. Additionally, the firm and its Associates sit on several industry committees whose focuses range from emerging product development to governmental regulation advisement.

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For more information, contact TSG at [email protected] to TSG's NewsFilter * PaymentsPulse.com * Follow TSG on Twitter * Follow TSG on LinkedIn * TheStrawGroup.com

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