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3Pea Is A Payment Processor With >40% Organic Growth Selling For Half Of Peer Multiples – 3Pea International, Inc. (OTCMKTS:TPNL)

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3Pea International Writeup

  • 3Pea (OTCQB:TPNL) is a little-known payments processing company with a long runway for organic growth selling at half of peers multiples.
  • Strong financial profile with gross margins >50%, EBITDA margins >20%, high ROIC, consistent FCF generation, negative working capital, and free float which generates more interest income in a rising rate environment.
  • Management is well aligned with 44% ownership and has not sold any shares. I like to find .400 hitters, put them on my team, and not tell them how to swing. Management has demonstrated a consistent track record of value creation; they are .400 hitters.
  • Potential fair value of $5.50 based on 5x EV/sales and 15x EV/EBITDA (slight discount to peers) on 2019 estimates. Looking out to 2021, 3Pea’s plasma business alone may be worth $10/share, a potential +60% CAGR over four years. Including growth potential from new verticals, 3Pea could be worth $16-21/share exiting 2021, giving +90% CAGR potential over four years.

The Plasma Therapeutics Industry

  • Plasma is the straw-colored part of blood, comprising 55% of blood’s volume. It is made of 90% water and 10% proteins. Certain life-threatening disorders, including immune deficiencies, bleeding disorders (Hemophilia), and others require treatments that are made from plasma. The United States is one of the few countries where plasma collection centers are allowed to compensate donors for their time, typically about $45 for a 1.5 hour donation. US plasma is processed into life-saving therapies that are used to treat patients domestically and also exported to other countries where it is more difficult to source plasma.
  • There are over 650 privately-owned plasma centers in the US. After being screened for diseases, donors sit for about 1.5 hours while plasma is collected, resulting in approximately 1 liter. The average plasma center collects approximately 180 donations per day. Plasma centers pay donors approximately $45/donation for their time, but the payment amount can vary based on location and promotions at the time.
  • The plasma is then quarantined for months to ensure there are no diseases that manifest over time. After quarantine, the plasma is pooled, purified, and fractionated. Fractionation involves splitting the source plasma into its proteins: Alpha-1, factor VIII, Immune Globulins, and Albumin, each of which is used to treat different disorders. The fractionation process is similar to a crude oil refinery, which results in different product mix (gasoline, diesel, jet fuel, etc.) depending on the type of crude and refinery configuration. Once the proteins are separated, they are packaged, labeled, and distributed to hospitals and medical distributors such as McKesson (NYSE:MCK) and AmerisourceBergen (NYSE:ABC) where they are used to treat life-threatening disorders.
  • Publicly traded plasma companies CSL (CSL AU), Grifols (GRF SM) (NASDAQ:GRFS), and Shire (NASDAQ:SHPG) (SHP LN) control 68% of plasma centers in the US, fractionate, and distribute treatments. Smaller players including Octapharma, Biotest (OTC:BTTAY), Kendrion (OTC:KNDRF), Interstate, and LFB control the remaining 32% of centers.
  • Industry suppliers include
    • Haemonetics (NYSE:HAE), Fresenius (FRE GY), Roche (OTCQX:RHHBY) (ROG SW), Novartis (NYSE:NVS) (NOVN SW) provide equipment, consumables, and donor management systems (DMS).
    • Wirecard (OTCPK:WRCDF) (WDI GY) and 3Pea (OTCQB:TPNL) provide payment processing solutions.
  • For more information on the plasma industry: Home – Plasma Protein Therapeutics Association (PPTA)

3Pea’s Revenue Model

  • 3Pea is a prepaid card program manager for the plasma industry that operates under the PaySign brand. The company signs up a plasma center and installs a kiosk inside the center where donors can check their balances and manage their accounts. They give the plasma center unloaded cards that are branded with the name and logo of the plasma center. When a donor completes a donation, they receive a prepaid debit card to compensate for their time, typically $45 per donation. Prepaid cards have many advantages over cash, including increased donor retention, marketing and branding, ability to run promotions, less theft, increased transparency, etc.
  • 3Pea generates revenue from two sources: interchange and fees. Interchange is paid by the card networks each time the card is used by the donor. Fees are charged to the donor for replacement cards, inactivity fees, international fees, etc. On average, 3Pea earns a 3% take-rate or approximately $1.40 of revenue per $45 donation loaded onto a card.
  • 3Pea currently has 217 plasma centers of the 650 in the US or 33% market share. Wirecard has the remaining 67% market share. I estimate each plasma center generates $110,000 of revenue for 3Pea per year (78,500 donations/center x $45/donation x 3% take-rate).
  • 3Pea’s only competitor Wirecard entered the business through the acquisition of Citi Prepaid Card Services in March 2017. 3Pea entered the plasma card processing industry in 2011, starting with zero plasma centers, has added new plasma centers each year, and has never lost a plasma center customer. The company has a good relationship with industry participants and provides a high service level to the plasma centers and the donors. I expect 3Pea will continue to win market share because (1) 3Pea has a stronger industry presence and relationships while plasma is not a focus for Wirecard because it has other customers that are larger (2) 3Pea’s uptime and systems are better than Wirecard. Plasma centers care about uptime and service more than pricing because both companies offer comparable pricing, and the fees are paid by the networks and donors, not by the plasma centers.
  • In addition to processing the transactions, 3Pea offers customizable loyalty and rewards programs to incentivize donors to make more donations. Each plasma center can customize their rewards programs. For example, if you donate six times in a given month, you get a $35 bonus added to your card. This increases donor retention and donation frequency.
  • 3Pea grows its revenue by (1) growing the number of plasma centers both through market growth of ~6-8% and winning market share, (2) increasing number of donations per center, and (3) donor compensation inflation (i.e. $45/donation rising to $50/donation) which has historically increased at ~5% per year as plasma centers compete for donors.

Example prepaid card 3Pea issues to a plasma donor

Illustrative fee schedule

 

Why 3Pea Has A Great Business

  • 3Pea has strong relationships with its plasma centers because they provide exceptional customer service. 3Pea has never lost a plasma center customer.
  • The revenue stream is recurring in nature because each plasma center has hundreds of donors each day who load their cards and quickly spend the balance which generates interchange and fees. This also creates a smooth stream of revenue which is predictable and easy to model.
  • The business has high gross margins (I estimate 53% normalized) because 3Pea owns its own payment processing software and has low customer acquisition costs once the plasma centers are signed up with 3Pea.
  • The business has negative working capital and positive float ($16.3mm and growing) because 3Pea collects cash from the plasma center up-front, and the donors spend their card balances over time. This allows 3Pea to generate interest income which should increase as rates rise. The negative working capital enables high returns on invested capital.
  • Low capital intensity results in consistent, strong FCF generation.

New Prepaid Card Verticals Give Long Runway For Growth

3Pea has a strong, growing recurring revenue stream from its plasma business. Management has wisely hired experts in other prepaid card verticals to 3Pea’s TAM. I estimate 3Pea’s revenue could reach $150mm exiting 2021 with $75mm from its current plasma business and $75mm from new prepaid verticals, including pharma copay reimbursement, clinical trials compensation, and corporate loyalty, rebates, and employee compensation.

 

Source: Author projections

Financial Projections

  • Plasma Revenue: Currently 100% of revenue is derived from 3Pea’s plasma business as described above. I estimate the plasma business will grow from $15mm in 2017 sales to $75mm in 2021 sales, a +46% CAGR. The primary assumptions are (1) 6-8% growth in plasma centers, based on guidance from plasma center companies new center openings (2) market share gains from 33% to 65% compared to 0% to 33% from 2011 to 2017 and (3) revenue per plasma center grows at a 6% CAGR, vs. 5% growth in the last five years.
  • New Verticals Revenue: 3Pea hired experts in new verticals in late 2017/early 2018 which should drive additional growth engines for the next four years. Based on the math in the “New Prepaid Card Verticals” section, I estimate potential for $75mm in sales exiting 2021 in new verticals. The timing and predictability are inherently lower, so apply an appropriate discount to this potential revenue.
  • Gross Margins: 3Pea’s 2017 gross margin was suppressed because of rapid growth in new plasma centers (some program startup costs run through COGS). As 3Pea’s revenue base becomes larger in 2018 through 2021, I expect gross margins to expand toward 53%.
  • Cash SG&A Costs: In late 2017/early 2018, 3Pea hired several industry vertical experts in addition to four new board members which will cause SG&A costs to increase in 2018. However, most of the cost increases are embedded in 1Q18’s SG&A number. Management expects costs to be relatively stable for the rest of 2018.
  • EBITDA Margin: The rapid sales growth, combined with gross margin expansion, will more than offset the higher SG&A costs in 2018, resulting in EBITDA margin expansion each year from 2018 to 2021.
  • EBITDA forecasts: I estimate EBITDA has the potential to reach $50mm in 2021 and $65mm exiting run-rate 2021 based on $150mm in revenue ($75mm from plasma and $75mm for new verticals), 53% gross margin, and 44% EBITDA margin (slower growing peers WEX, FLT, and FDC have 44% EBITDA margin).

 

Source: Author using company data

Valuation

  • I compared 3Pea to three sets of comps: (1) US payment processing peers, (2) International payment processing peers, and (3) Plasma industry peers. Organic revenue growth and EBITDA margins are the two most important drivers of the valuation multiple. 3Pea’s organic growth is much higher than peers (+) while margins are slightly lower today (-). In addition, 3Pea is smaller and less liquid than peers which warrants a discount (-). Based on the comp group, I estimate a 5x forward EV/sales and 15x forward EV/EBITDA multiple is appropriate, applied to long-term earnings power. I estimate fair value is $5.50 applying these NTM multiples to 2019 sales and EBITDA. Looking out four years, if 3Pea executes against its growth strategy, I estimate fair value is $16-21/share based on the same 5x EV/sales and 15x EV/EBITDA, creating the potential for +90% CAGR over the next four years or a 12x bagger.
  • Only giving 3Pea credit for its plasma business (assume zero revenue from New Verticals) at the same multiples, I estimate fair value is $4.50 based on 2019 sales and EBITDA (potential fair value by end of 2018), and $10.00 exiting 2021, giving +60% CAGR potential and 6x bagger potential over four years.

 

Source: Bloomberg

Catalysts

  • Up-list to Nasdaq July 31st
  • 2Q18 earnings August 14th
  • 3Q18 earnings November 14th
  • 4Q18 earnings March 25th

Nasdaq Uplisting

3Pea recently hired four independent board members which meets that uplisting requirement. I think the only remaining hurdle is a share price over $2.00. Management may vote to reverse split shares 2:1 or may wait for shares to rise above $2.00 organically. Either way, I think the company should be able to uplist by the end of August 2018.

1Q18 Review

  • Grew plasma centers to 217 (+6% q/q).
  • 1Q results impacted by seasonality, thus expect 1Q to be the lowest quarter of the year.
  • Management expects revenue to continue to grow at comparable rates (+46% in 1Q18) as the company brings higher margin card products to the market.
  • Importantly, management expects SG&A expenses to remain relatively stable for the remainder of the year. This will result in meaningful operating leverage through 2018 and into 2019, resulting in EBITDA growing faster than revenue.

Risks

  • Expected revenue growth doesn’t materialize in plasma or new verticals.
  • Margin improvement doesn’t materialize because gross margins do not continue to improve or SG&A increases more than expected.
  • Regulatory change in plasma industry impacts ability to compensate donors for their time which could have a significantly adverse impact on 3Pea’s primary business.
  • Loss of plasma centers to a competitor.
  • Data breach or technology mishap costs the firm money and damages reputation within the industry.
  • Loss of key executives.
  • Microcap with limited trading volume.

Management And Board Background

  • Management owns 44% of outstanding shares, plus has grants and options which would increase their ownership stake closer ~50% over the next five years. They purchased some stock in late 2016/early 2017 and have not sold any shares.

Management

  • Mark Newcomer is chairman, president, founder, and CEO, and owns 19% of outstanding shares (with grants to acquire more over time). He co-founded 3Pea with Daniel Spence in 2001 and became CEO in 2006.
  • Daniel Spence is CIO, CTO, co-founder, and owns 17% of outstanding shares (with grants to acquire more over time). He co-founded 3Pea with Mark in 2001.
  • Brian Polan is CFO and owns some shares with grants to acquire more over time.
  • Anthony Deprima is Chief Legal Officer and owns 6% of outstanding shares.
  • Joan Herman is COO and owns 0.5% of outstanding shares (with grants to acquire more over time).

Board

Recently hired four independent board members which meets one of the uplisting requirements for Nasdaq. I am impressed by the quality of the board members, including:

  • Dan Henry who is the former CEO of NetSpent which was acquired by TSS for $1.4bn in July 2013.
  • Dennis Triplett, former CEO of Healthcare Services at UMB Bank, a division of UMB.
  • Quinn Williams, a shareholder with the firm Greenberg Traurig, LLP.
  • Bruce Mena, co-founder & managing member of Mina Llano Higgins Group, LLP.

Conclusion

  • 3Pea is a little-known payments processing company with a long runway for organic growth selling at half of peers multiples.
  • Strong financial profile with gross margins >50%, EBITDA margins >20%, high ROIC, consistent FCF generation, negative working capital, and free float which generates more interest income in a rising rate environment.
  • Management is well aligned with 44% ownership and has not sold any shares. I like to find .400 hitters, put them on my team, and not tell them how to swing. Management has demonstrated a consistent track record of value creation; they are .400 hitters.
  • Potential fair value of $5.50 based on 5x EV/sales and 15x EV/EBITDA (slight discount to peers) on 2019 estimates. Looking out to 2021, 3Pea’s plasma business alone may be worth $10/share, a potential +60% CAGR over four years. Including growth potential from new verticals, 3Pea could be worth $16-21/share exiting 2021, giving +90% CAGR potential over four years.

Disclosure: I am/we are long TPNL.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

Editor’s Note: This article covers one or more stocks trading at less than $1 per share and/or with less than a $100 million market cap. Please be aware of the risks associated with these stocks.

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