NetSpend Skyrockets After IPO!
Who would have thought that a prepaid card manufacturer could reach a $1.2 billion valuation?
On October 19th, NetSpend Holdings (NASDAQ: NTSP), a marketer and distributor of prepaid debit cards, was able to complete a successful $204 million initial public offering, rising over 18% in its first day of trading. The IPO was one of the most successful of the summer. Shares of NetSpend jumped to almost $14 on October 20th from their initial $11 IPO price. The IPO proceeds were used by Oak Investment Partners to cut the investment firm’s stake in the company from 47% to 39%.
The company sold 18.5 million shares on the 19th, after pushing back the date of its debut due to the investigation of its customer Metabank by the U.S. Office of Thrift Supervision. Competitor Green Dot Corp., the largest provider of prepaid debit cards has rallied 35% since July. On the other hand, Meta Financial has fallen 60% since it was forced to shut down one of its credit card programs.
According to Rolfe Winkler of the Wall Street Journal, investors were paying $550+ apiece for each share of NetSpend purchased through its IPO. Netspend has an enterprise value (BEV) of about $1.2 billion, which implies a $590 valuation on its cards, whereas competitor Green Dot is valued at $630+ per card. One reason for the high valuation may lie in the fact that pre-IPO investors cannot sell their stakes until April 2011.
The risk in investing in NetSpend lies in the fact that the company’s processing fees per card provide only $11 in revenue per month. Marketing and distribution expenses are fairly high as well, and customers also only use cards for 1 year before cancelling. Churn is a significant issue for the company. This is why the company’s EBIT or operating margin is only about 15%. Due to the emergence to competitors and market saturation, NetSpend’s growth has decelerated from 50% in 2006 to 20% in 2009.
Since 2005, there have been a number of prepaid card providers that have emerged and have been targeting low income consumers underserved by banks. NetSpend has about two million active cards and is the second largest player in the United States with 40% market share. It attracts customers by promising no overdraft fees and minimum balances. As more banks turn away from low income customers, there may be potential for continued growth in this market. The company claims that $7.6 billion in transactions were made using its cards in 2009.
NetSpend cards are sold at 39,000 retail store locations and are used by 800 corporate employers who use NetSpend cards to pay employees without bank accounts. The cards are also FDIC-insured and are Visa & Mastercard branded.
Approximately 25% of households in the United States are underbanked, and are searching for alternatives to traditional bank accounts. The industry has growth at a CAGR of 49% from 2005 to 2009 and has reached a market size of approximately $300 million. The business is also scalable, with industry average EBITDA margins at 25%.
a) What do you think the growth prospects are for NetSpend?
b) What has Green Dot suddenly surpassed the company in terms of market share?
c) What are the main risks of investing in the company?
d) If payday lenders also participate in this market, are there any regulatory risks to NetSpend?
e) What role does MetaBank play in this case?
f) What are the two or three ways one could value Netspend?
g) Construct a model for one of the valuation methods above.
h) Who would be willing to spend more on NetSpend, a strategic or financial buyer?
i) If a private equity firm were to purchase NetSpend, using 5.0x total leverage, what would be the IRR %, assuming the deal is 2.0x Senior and 3.0x High Yield at LIBOR + 300bps and 11%, respectively?
j) Why don't banks try to compete with NetSpend?
k) Why can't pre-IPO investors divest of their shares?
Companies Highlighted: NetSpend, Green Dot, MetaBank
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Company names included in case study.